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Subprime Consumer Credit Demand: Evidence from a Lender's Price Experiment

37 Pages Posted: 4 Feb 2011  

Sule Alan

affiliation not provided to SSRN

Ruxandra Dumitrescu

affiliation not provided to SSRN

Gyongyi Loranth

Centre for Economic Policy Research (CEPR)

Date Written: January 30, 2011

Abstract

We test the interest rate sensitivity of subprime credit card borrowers using a unique panel data set from a UK credit card company. What is novel about our contribution is that we were given details of a randomized interest rate experiment conducted by the lender between October 2006 and January 2007. We find that individuals who tend to utilize their credit limits fully do not reduce their demand for credit when subject to increases in interest rates as high as 3 percentage points. This finding is naturally interpreted as evidence of binding liquidity constraints. We also demonstrate the importance of truly exogenous variation in interest rates when estimating credit demand elasticities. We show that estimating a standard credit demand equation with nonexperimental variation leads to seriously biased estimates even when conditioning on a rich set of controls and individual fixed effects. In particular, this procedure results in a large and statistically significant 3-month elasticity of credit card debt with respect to interest rates even though the experimental estimate of the same elasticity is neither economically nor statistically different from zero.

Keywords: Subprime Credit, Randomized Trials, Liquidity Constraints

JEL Classification: D11, D12

Suggested Citation

Alan, Sule and Dumitrescu, Ruxandra and Loranth, Gyongyi, Subprime Consumer Credit Demand: Evidence from a Lender's Price Experiment (January 30, 2011). Available at SSRN: https://ssrn.com/abstract=1754566 or http://dx.doi.org/10.2139/ssrn.1754566

Sule Alan (Contact Author)

affiliation not provided to SSRN ( email )

Ruxandra Dumitrescu

affiliation not provided to SSRN ( email )

Gyongyi Loranth

Centre for Economic Policy Research (CEPR) ( email )

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

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