Consumption, 'Credit Crunches' and Financial Deregulation

Andrew Scott ()

No 1389, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We examine whether credit contributes to business cycle fluctuations by directly affecting consumption rather than through the now well-understood investment channel. Examining UK data we argue that consumers face a rising interest rate schedule whereby additional borrowing leads to higher interest rates. At a certain level of debt this schedule may become vertical and consumers face a credit ceiling. Using this assumption we find consumption growth depends on the interest rate, the borrowing wedge, and the debt-income ratio, and that we can potentially account for the failings of the rational expectations permanent income hypothesis (REPIH). Risk aversion and the interest rate schedule interact such that agents choose not to hold much debt, however, and so consumers are not much affected by ‘credit crunches’, although the more efficient the capital market, the bigger the impact. Calibrating our model and performing simulations suggests the sharp increases in UK consumption in the late 1980s were more likely due to income revisions than financial deregulation per se.

Keywords: Consumption; Credit Constraint; Credit Crunch; Financial Deregulation; Precautionary Saving (search for similar items in EconPapers)
JEL-codes: E2 E3 E5 (search for similar items in EconPapers)
Date: 1996-05
References: Add references at CitEc
Citations View citations in EconPapers (1) Track citations by RSS feed

Downloads: (external link)
http://www.cepr.org/pubs/dps/DP1389.asp (application/pdf)
CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

Related works:
Working Paper: Consumption, "Credit Crunches" and Financial Deregulation (1996)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: http://EconPapers.repec.org/RePEc:cpr:ceprdp:1389

Ordering information: This working paper can be ordered from
http://www.cepr.org/pubs/dps/DP1389.asp

Access Statistics for this paper

More papers in CEPR Discussion Papers from C.E.P.R. Discussion Papers
Address: Centre for Economic Policy Research, 77 Bastwick Street, London EC1V 3PZ
Series data maintained by ().