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Credit Markets with Time-Inconsistent Agents and Strategic Loan Default

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  • Bhattacharya, Joydeep
  • Bishnu, Monisankar
  • Wang, Min

Abstract

We study credit contracts under a lifecycle setting where time-inconsistent agents lack the internal commitment to stick to consumption plans and external commitment to repaying loans. With unrestricted credit, agents with only internal commitment problems may overborrow. If, additionally, they face external commitment problems, lenders endogenously impose borrowing limits similar to the ability-torepay rules consumer financial protection agencies impose. Even with restricted credit access, except in exceptional cases, agents suffering from the twin commitment problems can achieve, at most, fully-sophisticated allocations. The government can achieve the first-best allocations if and only if it is assisted with endogenously imposed borrowing limits.

Suggested Citation

  • Bhattacharya, Joydeep & Bishnu, Monisankar & Wang, Min, 2023. "Credit Markets with Time-Inconsistent Agents and Strategic Loan Default," ISU General Staff Papers 202004030700001100, Iowa State University, Department of Economics.
    • Handle: RePEc:isu:genstf:202004030700001100
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    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E70 - Macroeconomics and Monetary Economics - - Macro-Based Behavioral Economics - - - General
    • G40 - Financial Economics - - Behavioral Finance - - - General
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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