This dissertation consists of three chapters investigating the role of financial frictions in transmitting macroeconomic shocks and its implications for stabilization policies. The first chapter studies both empirically and theoretically how macro uncertainty shocks affect the real economy via a firm balance sheet channel and highlights its novel policy implications. I document that following an increase in macro uncertainty, firm-level capital stock and outstanding debt fall while cash holdings increase, and such capital drop and cash buildup is more pronounced among ex-ante more indebted firms. I develop a quantitative heterogeneous firm model with financial frictions to illustrate the mechanism. In the model, firms fear liquidity shortages for debt repayments, thereby trading off capital investment for less debt burden and more cash holdings as heightened uncertainty creates greater downside risk. Cash buildup is strong, especially among more indebted firms, as cash preserves internal funds for both future debt repayment and growth opportunities triggered by increased uncertainty. A calibrated model featuring the transmission mechanism reproduces the observed impacts of macro uncertainty shocks at both micro and macro levels. Quantitative experiments suggest that conventional stimulus policies, like investment tax credits, yield only modest effects in counteracting the adverse impact of uncertainty shocks. In contrast, credit interventions, such as debt relief, can strongly and effectively stabilize uncertainty-driven recessions. The second chapter studies the macroeconomic implications of debt covenants in a dynamic general equilibrium model that features long-term defaultable debt. In our model, the ex-post penalty associated with covenant violations aligns shareholders' incentives with lenders' interests in the face of default risk, thereby mitigating ex-ante debt dilution and debt overhang. We show that this mechanism has significant macroeconomic effects: (1). it reduces the counter-cyclical variation in firm leverage, default risk, and credit spreads, substantially lowering aggregate volatility; (2). it alleviates the debt overhang problem and thus boosts capital accumulation, resulting in higher wages, output, and consumption. Our results, therefore, challenge the existing literature where debt covenants, modeled as distortionary borrowing constraints in models without default risk, amplify volatility and distort output. Moreover, we show that the calibrated economy with the level of covenant tightness observed in the U.S. approximates the constrained efficient allocation in which a social planner maximizes the values of both equity and debt claims. The third chapter studies how financial frictions influence the transmission of monetary policy. Contrary to the financial accelerator effects on fixed capital investment in the literature, this chapter shows both empirically and theoretically that financial frictions dampen the effects of monetary policy shocks on inventory investment. Using firm-level data combined with externally identified monetary policy shocks, I first show that following contractionary monetary policy shocks, more financially constrained firms cut much fewer inventories than their less financially constrained counterparts despite similar effects of monetary policy shocks on their sales. To explain the empirical patterns, I build a dynamic New Keynesian general equilibrium model in which firms face demand uncertainty and financial frictions and thus manage inventory to avoid stock-outs and cash flow shortfalls. When contractionary monetary policy shocks lower households' demand for goods and thus firms' expected sales and revenues, more financially constrained firms slash their goods' prices and put more inventories on the shelves to increase operating cash flows, thereby avoiding costly external financing. My calibrated model successfully replicates a wide set of data features: pro-cyclical inventories and sales, counter-cyclical inventory-to-sales ratio and markups, and heterogeneous responses across differently financially constrained firms. Counterfactual exercises show that the aggregate effect of monetary policy is smaller in a more financially constrained economy through the inventory channel.