Information Asymmetries in Consumer Credit Markets: Evidence from Payday Loans

36 Pages Posted: 12 Jul 2011  

Paige Marta Skiba

Vanderbilt University - Law School

Will Dobbie

Harvard University

Date Written: July 10, 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.

Keywords: payday loans, information asymmetries, adverse selection

JEL Classification: D14, D82, D83, G21

Suggested Citation

Skiba, Paige Marta and Dobbie, Will, Information Asymmetries in Consumer Credit Markets: Evidence from Payday Loans (July 10, 2011). Vanderbilt Law and Economics Research Paper No. 11-05. Available at SSRN: https://ssrn.com/abstract=1883230 or http://dx.doi.org/10.2139/ssrn.1883230

Paige Marta Skiba (Contact Author)

Vanderbilt University - Law School ( email )

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

Will Dobbie

Harvard University ( email )

1875 Cambridge Street
Cambridge, MA 02138
United States

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