Estimating Discount Functions with Consumption Choices over the Lifecycle

Intertemporal preferences are difficult to measure. We estimate time preferences using a structural buffer stock consumption model and the Method of Simulated Moments. The model includes stochastic labor income, liquidity constraints, child and adult dependents, liquid and illiquid assets, revolving credit, retirement, and discount functions that allow short-run and long-run discount rates to differ. Data on retirement wealth accumulation, credit card borrowing, and consumption-income comovement identify the model. Our benchmark estimates imply a 40% short-term annualized discount rate and a 4.3% long-term annualized discount rate. Almost all specifications reject the restriction to a constant discount rate. Our quantitative results are sensitive to assumptions about the return on illiquid assets and the coefficient of relative risk aversion. When we jointly estimate the coefficient of relative risk aversion and the discount function, the short-term discount rate is 15% and the long-term discount rate is 3.8%.

Self-Control and Saving for Retirement

macroeconomics, Self-Control, Saving, Retirement

Dynamics of Demand for Index Insurance: Evidence from a Long-Run Field Experiment

This paper estimates how experimentally-manipulated experiences with a novel financial product, rainfall index insurance, affect subsequent insurance demand. Using a seven-year panel, we develop three main findings. First, recent experience matters for demand, consistent with overinference from small samples. Second, spillovers also matter, in the sense that the recent payout experience of village co-residents affects insurance demand about as much as one's own recent payout experience. Third, the spillover effect decays as time passes while the effect of one's own experience does not. We discuss implications of this analysis for commercial sustainability of this complicated but promising risk management technology

Barriers to household risk management : evidence from India

Why do many households remain exposed to large exogenous sources of non-systematic income risk? This paper uses a series of randomized field experiments in rural India to test the importance of price and non-price factors in the adoption of an innovative rainfall insurance product. The analysis finds that demand is significantly price-elastic, but that even if insurance were offered with payout ratios similar to US, widespread coverage would not be achieved. The paper identifies key non-price frictions that limit demand: liquidity constraints, particularly among poor households, lack of trust, and limited salience. The authors suggest potential improvements in contract design to mitigate these frictions.Financial Literacy,Debt Markets,Access to Finance,Emerging Markets,Labor Policies

Pecuniary Mistakes? Payday Borrowing by Credit Union Members

This chapter examines patterns of financial choices by a credit union’s members using transaction-level administrative data on checking, savings, and line-of-credit (LOC) accounts. We observe substantial payday loan use when cheaper sources of liquidity are available, resulting in average interest losses of about $88 over six and a half months. In addition, we find much higher levels of transaction activity by payday borrowing members than by other members, at half the average transaction dollar magnitude. These results are consistent with previous work identifying financial stress and decision-making challenge

Payday Loans and Credit Cards: New Liquidity and Credit Scoring Puzzles?

Using a unique dataset matched at the individual level from two administrative sources, we examine household choices between liabilities and assess the informational content of prime and subprime credit scores in the consumer credit market. First, more specifically, we assess consumers' effectiveness at prioritizing use of their lowest-cost credit option. We find that most borrowers from one payday lender who also have a credit card from a major credit card issuer have substantial credit card liquidity on the days they take out their payday loans. This is costly because payday loans have annualized interest rates of at least several hundred percent, though perhaps partly explained by the fact that borrowers have experienced substantial declines in credit card liquidity in the year leading up to the payday loan. Second, we show that FICO scores and Teletrack scores have independent information and are specialized for the types of lending where they are used. Teletrack scores have eight times the predictive power for payday loan default as FICO scores. We also show that prime lenders should value information about their borrowers' subprime activity. Taking out a payday loan predicts nearly a doubling in the probability of serious credit card delinquency over the next year.

A Debt Puzzle

Over 60% of US households with credit cards are currently borrowing -- i.e., paying interest -- on those cards. We attempt to reconcile the high rate of credit card borrowing with observed levels of life cycle wealth accumulation. We simulate a lifecycle model with five properties that create demand for credit card borrowing. First, the calibrated labor income path slopes upward early in life. Second, income has transitory shocks. Third, consumers invest actively in an illiquid asset, which is sufficiently illiquid that it can not be used to smooth transitory income shocks. Fourth, consumers may declare bankruptcy, reducing the effective cost of credit card borrowing. Fifth, households have relatively more dependents early in the life-cycle. Our calibrated model predicts that 20% of the population will borrow on their credit card at any point in time, far less than the observed rate of over 60%. We identify a resolution to this puzzle: hyperbolic time preferences. Simulated hyperbolic consumers borrow actively in the revolving credit card market and accumulate relatively large stocks of illiquid wealth, matching observed data.

Barriers to Household Risk Management: Evidence from India

Why do many households remain exposed to large exogenoussources of non-systematic income risk? We use a series of randomized field experiments in rural India to test the importance of price and non-price factors in the adoption of an innovative rainfall insurance product. We find demand is significantly price-elastic, but that even if insurance were offered with payout ratios similar to US, widespread coverage would not be achieved. We then identify key non-price frictions that limit demand: liquidity constraints, particularly among poor households, lack of trust, and limited salience. We suggest potential improvements in contract design to mitigate these frictions.Switzerland. State Secretariat for Economic AffairsGlobal Association of Risk ProfessionalsBill & Melinda Gates Foundation (Consortium on Financial Systems and Poverty grant

Do Payday Loans Cause Bankruptcy?

Payday loans are used by millions of Americans every year despite their annualized interest rates of several hundred percent. We provide new evidence on the consequences of payday borrowing and the determinants of personal bankruptcy. Using an administrative panel data set of loan records in a regression-discontinuity design, we estimate that payday loans increase personal bankruptcy rates by a factor of two. We assess possible mechanisms and find the most support for a novel one: payday loan access appears to induce bankruptcy filings by worsening the cash flow position of the household