Costly Contracts and Consumer Credit

Michele Tertilt, Igor Livshits and James (Jim) MacGee ()

No 8580, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Financial innovations are a common explanation of the rise in consumer credit and bankruptcies. To evaluate this story, we develop a simple model that incorporates two key frictions: asymmetric information about borrowers? risk of default and a fixed cost to create each contract offered by lenders. Innovations which reduce the fixed cost or ameliorate asymmetric information have large extensive margin effects via the entry of new lending contracts targeted at riskier borrowers. This results in more defaults and borrowing, as well as increased dispersion of interest rates. Using the Survey of Consumer Finance and interest rate data collected by the Board of Governors, we find evidence supporting these predictions, as the dispersion of credit card interest rates nearly tripled, and the share of credit card debt of lower income households nearly doubled.

Keywords: Consumer credit; Endogenous financial contracts; Bankruptcy (search for similar items in EconPapers)
JEL-codes: E21 E49 G18 K35 (search for similar items in EconPapers)
Date: 2011-09
New Economics Papers: this item is included in nep-ban, nep-cta and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

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Related works:
Working Paper: Costly Contracts and Consumer Credit (2011)
Working Paper: Costly Contracts and Consumer Credit (2008)
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