Information Asymmetries in Consumer Credit Markets: Evidence from Two Payday Lending Firms

43 Pages Posted: 18 Jan 2011 Last revised: 25 Feb 2012

Will Dobbie

Harvard University

Paige Marta Skiba

Vanderbilt University - Law School

Date Written: September 15, 2011

Abstract

This paper tests for incentive and selection effects in a subprime consumer credit market. We estimate the incentive effect of loan size on default using sharp discontinuities in loan eligibility rules. This allows us to estimate the magnitude of selection from the cross-sectional correlation between loan size and default. We find evidence of advantageous incentives and adverse selection. For a given borrower, we estimate that a $100 increase in loan size decreases the probability of default by 3.7 to 4.2 percentage points, a 20 to 23 percent decrease from the mean default rate. The incentive effect is more than o ffset by adverse selection into larger loans. Borrowers who choose $100 larger loans are 6.9 to 8.0 percentage points more likely to default than borrowers who choose smaller loans. Taken together, our results are consistent with the idea that information frictions lead to credit constraints in equilibrium.

Suggested Citation

Dobbie, Will and Skiba, Paige Marta, Information Asymmetries in Consumer Credit Markets: Evidence from Two Payday Lending Firms (September 15, 2011). Vanderbilt Law and Economics Research Paper No. 11-05. Available at SSRN: https://ssrn.com/abstract=1742564 or http://dx.doi.org/10.2139/ssrn.1742564

Will Dobbie

Harvard University ( email )

1875 Cambridge Street
Cambridge, MA 02138
United States

Paige Marta Skiba (Contact Author)

Vanderbilt University - Law School ( email )

131 21st Avenue South
Nashville, TN 37203-1181
United States
615-322-1958 (Phone)

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