The reaction of consumer spending and debt to tax rebates – evidence from consumer credit data

We use a new panel dataset of credit card accounts to analyze how consumers responded to the 2001 federal income tax rebates. We estimate the monthly response of credit card payments, spending, and debt, exploiting the unique, randomized timing of the rebate disbursement. We find that on average consumers initially saved some of the rebate, by increasing their credit card payments and thereby paying down debt. But soon afterwards spending increased, counter to the canonical Permanent-Income model. For people whose most intensively used credit card account is in the sample, spending on that account rose by over $200 cumulatively over the nine months after rebate receipt, which represents over 40% of the average household rebate. Because these results relied exclusively on exogenous, randomized variation, they represent compelling evidence of a causal link from the rebate to spending. ; Further, we found significant heterogeneity in the response to the rebate across different types of consumers. Notably, spending rose most for consumers who were initially most likely to be liquidity constrained according to various criteria, for example consumers who appeared to be initially constrained by their credit limits (before making additional payments). By contrast, debt declined most (so saving rose most) for unconstrained consumers. These results suggest that liquidity constraints are important. More generally, we found that there can be important dynamics in consumers’ response to ‘lumpy’ increases in income like tax rebates, working in part through balance sheet (liquidity) mechanisms.Consumer behavior ; Consumer credit ; Credit cards

The Reaction of Consumer Spending and Debt to Tax Rebates -- Evidence from Consumer Credit Data

We use a new panel dataset of credit card accounts to analyze how consumers responded to the 2001 Federal income tax rebates. We estimate the monthly response of credit card payments, spending, and debt, exploiting the unique, randomized timing of the rebate disbursement. We find that, on average, consumers initially saved some of the rebate, by increasing their credit card payments and thereby paying down debt. But soon afterwards their spending increased, counter to the canonical Permanent-Income model. Spending rose most for consumers who were initially most likely to be liquidity constrained, whereas debt declined most (so saving rose most) for unconstrained consumers. More generally, the results suggest that there can be important dynamics in consumers' response to "lumpy" increases in income like tax rebates, working in part through balance sheet (liquidity) mechanisms.

Do consumers choose the right credit contracts?

We find that on average consumers chose the contract that ex post minimized their net costs. A substantial fraction of consumers (about 40%) still chose the ex post sub-optimal contract, with some incurring hundreds of dollars of avoidable interest costs. Nonetheless, the probability of choosing the sub-optimal contract declines with the dollar magnitude of the potential error, and consumers with larger errors were more likely to subsequently switch to the optimal contract. Thus most of the errors appear not to have been very costly, with the exception that a small minority of consumers persists in holding substantially sub-optimal contracts without switching. Klassifikation: G11, G21, E21, E5

Benefits of relationship banking: evidence from consumer credit markets

This paper empirically examines the benefits of relationship banking to banks, in the context of consumer credit markets. Using a unique panel dataset that contains comprehensive information about the relationships between a large bank and its credit card customers, we estimate the effects of relationship banking on the customers' default, attrition, and utilization behavior. We find that relationship accounts exhibit lower probabilities of default and attrition, and have higher utilization rates, compared to non-relationship accounts, ceteris paribus. Such effects become more pronounced with increases in various measures of the strength of the relationships, such as relationship breadth, depth, length, and proximity. Moreover, dynamic information about changes in the behavior of a customer’s other accounts at the bank, such as changes in checking and savings balances, helps predict and thus monitor the behavior of the credit card account over time. These results imply significant potential benefits of relationship banking to banks in the retail credit market.Consumer credit ; Credit cards

Do consumers choose the right credit contracts?

A number of studies have pointed to various mistakes that consumers might make in their consumption-saving and financial decisions. We utilize a unique market experiment conducted by a large U.S. bank to assess how systematic and costly such mistakes are in practice. The bank offered consumers a choice between two credit card contracts, one with an annual fee but a lower interest rate and one with no annual fee but a higher interest rate. To minimize their total interest costs net of the fee, consumers expecting to borrow a sufficiently large amount should choose the contract with the fee, and vice-versa. ; We find that on average consumers chose the contract that ex post minimized their net costs. A substantial fraction of consumers (about 40%) still chose the ex post sub-optimal contract, with some incurring hundreds of dollars of avoidable interest costs. Nonetheless, the probability of choosing the sub-optimal contract declines with the dollar magnitude of the potential error, and consumers with larger errors were more likely to subsequently switch to the optimal contract. Thus most of the errors appear not to have been very costly, with the exception that a small minority of consumers persists in holding substantially sub- optimal contracts without switching.Consumer credit ; Contracts

Do Consumers Choose the Right Credit Contracts?

We analyze an experiment conducted by a large U.S. bank that offered consumers a choice between two credit card contracts, one with an annual fee but a lower interest rate and one with no annual fee but a higher interest rate. We find that on average consumers chose the credit contract that minimized their costs. A substantial fraction of consumers (about 40%) still chose the suboptimal contract. Nonetheless, the probability of choosing the suboptimal contract declines with the dollar magnitude of the potential error, and consumers with larger errors are more likely to subsequently switch to the optimal contract