ABSTRACT – This paper evaluates the effects of a subsidy on loan interest rates in a general equilibrium model with heterogeneous agents, occupational choice and two financial frictions: a cost to intermediate loans and imperfect enforcement of credit contracts. Occupational choice and firm size are determined endogenously by an agent’s type (ability and net wealth) and the credit market frictions. The credit program subsidizes the interest rate on loans and requires a fixed application cost, which might be null, in the form of bureaucracy and regulations. We show that for the United States, this credit subsidy does not have a signicant effect on output per capita, but it can have important negative effects on wages and government finances. For Brazil, a developing country in which financial repression is high and the government subsidies heavily loans, counter-factual exercises show that if all interest subsidies were cut, no significant quantitative e effect would occur on output per capita, wages, inequality or government finances. The program is largely a transfer from workers to a small group of entrepreneurs.
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