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Borrowing during unemployment: unsecured debt as a safety net

  • James X. Sullivan

Over the past two decades, U.S. consumers have increasingly relied on unsecured debt to finance consumption. The growth in unsecured debt has been particularly striking for low-income households. Some researchers have suggested that poor households use this debt to smooth consumption intertemporally, implying that these credit markets effectively serve as a safety net for disadvantaged households. This paper examines whether unsecured credit markets do, in fact, play an important role in the ability of disadvantaged households to supplement unemployment-induced earnings losses. I use panel data from two nationally representative surveys to address the two central questions of this paper. First, I consider whether households rely on unsecured credit markets to supplement temporary shortfalls in earnings. While I find no evidence that low-asset households borrow in response to these shortfalls, I show that households with assets do borrow. ; Among these households with assets, borrowing is particularly responsive to these idiosyncratic shocks for younger and less-educated households. The second question I consider is why low-asset households do not borrow. I provide evidence that they are not supplementing these lost earning via other income sources, showing that consumption falls in response to these earnings shortfalls. I also show that the borrowing and consumption behavior of low-asset households is different from other households. While some other explanations cannot be ruled out, the evidence presented here suggests that low-asset households do not have sufficient access to unsecured credit to help smooth consumption in response to transitory income shocks.

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Paper provided by Federal Reserve Bank of Chicago in its series Proceedings with number 958.

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Date of creation: 2005
Date of revision:
Publication status: Published in Proceedings of a conference held in Washington, DC. (2005 : April 7-8) : a Federal Reserve System Community Affairs Reseach Conference; Promises & Pitfalls: as Consumer Finance Options Multiply, Who Is Being Served and at What Cost?
Handle: RePEc:fip:fedhpr:958
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