The Interplay Between Student Loans and Credit Cards: Implications for Default
AbstractWe analyze, theoretically and quantitatively, the interactions between two different forms of unsecured credit and their implications for default behavior of young U.S. households. One type of credit mimics credit cards in the U.S. and the default option resembles a bankruptcy filing under Chapter 7 and the other type of credit mimics student loans in the U.S. and the default option resembles Chapter 13 of the U.S. Bankruptcy Code. In the credit card market financial intermediary offers a menu of interest rates based on individual default risk, whereas in the student loan market the government sets a fix interest rate. We prove the existence of a steady-state equilibrium and characterize the circumstances under which a household defaults on each of these loans. We demonstrate that the institutional differences between the two markets make borrowers prefer default on student loans rather than on credit card debt. Our quantitative analysis shows that the increase in college debt together with the changes in the credit card market fully explain the increase in the default rate for student loans in recent years. While having credit card debt increases student loan default, loose credit card markets help borrowers with large student loans smooth out consumption and reduce student loan default. We find that the recent 2010 reform on income-based repayment on student loans is justified on welfare grounds, and in particular, in an economy with tight credit card markets.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Human Capital and Economic Opportunity Working Group in its series Working Papers with number 2012-014.
Date of creation: Jul 2012
Date of revision:
Default; Student Loans; Credit Cards;
Find related papers by JEL classification:
- D91 - Microeconomics - - Intertemporal Choice - - - Intertemporal Household Choice; Life Cycle Models and Saving
- I22 - Health, Education, and Welfare - - Education - - - Educational Finance; Financial Aid
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Satyajit Chatterjee & Dean Corbae & Makoto Nakajima & Jose-Victor Rios-Rull, 2007.
"A quantitative theory of unsecured consumer credit with risk of default,"
07-16, Federal Reserve Bank of Philadelphia.
- Satyajit Chatterjee & Dean Corbae & Makoto Nakajima & José-Víctor Ríos-Rull, 2007. "A Quantitative Theory of Unsecured Consumer Credit with Risk of Default," Econometrica, Econometric Society, vol. 75(6), pages 1525-1589, November.
- Satyajit Chatterjee & Dean Corbae & Makoto Nakajima & Jose-Victor Rios-Rull, 2002. "A Quantitative Theory of Unsecured Consumer Credit with Risk of Default," Centro de AltiÂsimos Estudios RiÂos PeÂ©rez(CAERP) 2, Centro de Altisimos Estudios Rios Perez (CAERP).
- Huggett, Mark, 1993. "The risk-free rate in heterogeneous-agent incomplete-insurance economies," Journal of Economic Dynamics and Control, Elsevier, vol. 17(5-6), pages 953-969.
- Igor Livshits & James MacGee & Michele Tertilt, 2003.
"Consumer bankruptcy: a fresh start,"
617, Federal Reserve Bank of Minneapolis.
- Nicole Simpson & Felicia Ionescu, 2010.
"Credit Scores and College Investment,"
2010 Meeting Papers
666, Society for Economic Dynamics.
- Athreya, Kartik & Tam, Xuan S. & Young, Eric R., 2009. "Unsecured credit markets are not insurance markets," Journal of Monetary Economics, Elsevier, vol. 56(1), pages 83-103, January.
- Satyajit Chatterjee & Dean Corbae & José-Víctor Ríos-Rull, 2007.
"A finite-life private-information theory of unsecured consumer debt,"
07-14, Federal Reserve Bank of Philadelphia.
- Chatterjee, Satyajit & Corbae, Dean & Ríos-Rull, José-Víctor, 2008. "A finite-life private-information theory of unsecured consumer debt," Journal of Economic Theory, Elsevier, vol. 142(1), pages 149-177, September.
- Athreya, Kartik B., 2002. "Welfare implications of the Bankruptcy Reform Act of 1999," Journal of Monetary Economics, Elsevier, vol. 49(8), pages 1567-1595, November.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Jennifer Pachon).
If references are entirely missing, you can add them using this form.