Household Need for Liquidity and the Credit Card Debt Puzzle

Irina Telyukova ()

MPRA Paper from University Library of Munich, Germany

Abstract: In the 2001 U.S. Survey of Consumer Finances (SCF), 27% of households report simultaneously revolving significant credit card debt and holding sizeable amounts of liquid assets. These consumers report paying, on average, a 14% interest rate on their debt, while earning only 1 or 2% on their liquid deposit accounts. This phenomenon is known in the literature as the “credit card debt puzzle.” In this paper, I pose and quantitatively evaluate the following explanation for this puzzle: households that accumulate credit card debt may not pay it off using their money in the bank, because they expect to use that money for goods for which credit cards cannot be used. Using both aggregate and survey data (SCF and CEX), I document that liquid assets are a substantial part of households’ portfolios and that consumption in goods requiring liquid payments may have a sizeable unpredictable component. This would warrant holding precautionary balances in liquid accounts. I develop a dynamic heterogeneous-agent model of household portfolio choice, where households are subject to uninsurable income and preference uncertainty, and consumer credit and liquidity coexist as means of consumption and saving/borrowing. The calibration of the model parameters is based on the simulated method of moments. The calibrated model accounts for 73% of the households in the data who hold consumer debt and liquidity simultaneously, and for at least 55 cents of every dollar held by a median household in the puzzle group. I argue that these results are a lower bound, and that the liquidity-need hypothesis is thus successful in rendering most of the puzzle a rational phenomenon.

JEL-codes: D12 D14 E21 E41 (search for similar items in EconPapers)
Date: 2007-12-26
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (11)

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https://mpra.ub.uni-muenchen.de/6674/1/MPRA_paper_6674.pdf original version (application/pdf)
https://mpra.ub.uni-muenchen.de/15040/4/MPRA_paper_15040.pdf revised version (application/pdf)

Related works:
Journal Article: Household Need for Liquidity and the Credit Card Debt Puzzle (2013)
Working Paper: Household Need for Liquidity and the Credit Card Debt Puzzle (2012)
Working Paper: Household Need for Liquidity and the Credit Card Debt Puzzle (2008)
Working Paper: Household Need for Liquidity and the Credit Card Debt Puzzle (2007)
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:6674

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