Credit card debt and default over the life-cycle
This paper solves an empirically parameterised model of life-cycle consumption which extends the precautionary savings models of Carroll (1997), and Deaton (1991), to allow for uncollaterized borrowing and default. In case households choose to default: (i) their access to credit markets is restricted; (ii) lenders of funds may seize their financial assets above an exemption level, and up to the amount of outstanding debt; and (iii) there is a “stigma effect,” or a decrease in current utility caused by the social embarrassment of declaring bankruptcy. The model shows that the decisions to borrow and default are closely related to the shape of the life-cycle labor income profile, and henceforth vary across household education levels. Moreover, the model explains two puzzling empirical facts: (a) why bankruptcy rates have been growing in periods of economic expansion and low unemployment; and, (b) why households hold simultaneously high cost debt and low return assets.
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- Christopher D. Carroll, 1997. "Buffer-Stock Saving and the Life Cycle/Permanent Income Hypothesis," The Quarterly Journal of Economics, Oxford University Press, vol. 112(1), pages 1-55.
- Tauchen, George & Hussey, Robert, 1991. "Quadrature-Based Methods for Obtaining Approximate Solutions to Nonlinear Asset Pricing Models," Econometrica, Econometric Society, vol. 59(2), pages 371-396, March.
- David Laibson & Andrea Repetto & Jeremy Tobacman, 2000.
"A Debt Puzzle,"
Documentos de Trabajo
80, Centro de Economía Aplicada, Universidad de Chile.
- David Laibson & Andrea Repetto & Jeremy Tobacman, 2000. "A Debt Puzzle," NBER Working Papers 7879, National Bureau of Economic Research, Inc.
- Kehoe, Timothy J & Levine, David K, 2001. "Liquidity Constrained Markets versus Debt Constrained Markets," Econometrica, Econometric Society, vol. 69(3), pages 575-598, May.
- Narayana R. Kocherlakota, 1996. "Implications of Efficient Risk Sharing without Commitment," Review of Economic Studies, Oxford University Press, vol. 63(4), pages 595-609.
- Narayana Kocherlakota, 2010. "Implications of Efficient Risk Sharing Without Commitment," Levine's Working Paper Archive 2053, David K. Levine.
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