Household Liquidity and Incremental Financing Decisions: Theory and Evidence

37 Pages Posted: 13 Oct 2011

See all articles by M. Ricardo Cunha

M. Ricardo Cunha

Portuguese Catholic University - Porto

Bart M. Lambrecht

University of Cambridge - Judge Business School; Centre for Economic Policy Research (CEPR)

Grzegorz Pawlina

Lancaster University - Department of Accounting and Finance

Multiple version iconThere are 2 versions of this paper

Date Written: September/October 2011

Abstract

In this paper we develop a stochastic model for household liquidity. In the model, the optimal liquidity policy takes the form of a liquidity range. Subsequently, we use the model to calibrate the upper bound of the predicted liquidity range. Equipped with knowledge about the relevant control barriers, we run a series of empirical tests on a panel data set of Dutch households covering the period 1992‐2007. The results broadly validate our theoretical predictions that households (i) exhaust most of their short‐term liquid assets prior to increasing net debt, and (ii) reduce outstanding net debt at the optimally selected upper liquidity barrier. However, a small minority of households appear to act sub‐optimally. Poor and vulnerable households rely too frequently on expensive forms of credit (such as overdrafts) hereby incurring substantial amounts of fees and fixed borrowing costs. Elderly households and people on social benefits tend to accumulate too much liquidity. Finally, some households take on expensive short‐term credit while having substantial amounts of low‐yielding liquid assets.

Keywords: household finance, liquidity management, net debt, Brownian motion

Suggested Citation

Cunha, M. Ricardo and Lambrecht, Bart and Pawlina, Grzegorz, Household Liquidity and Incremental Financing Decisions: Theory and Evidence (September/October 2011). Journal of Business Finance & Accounting, Vol. 38, Issue 7‐8, pp. 1016-1052, 2011. Available at SSRN: https://ssrn.com/abstract=1943359 or http://dx.doi.org/10.1111/j.1468-5957.2011.02248.x

M. Ricardo Cunha (Contact Author)

Portuguese Catholic University - Porto ( email )

Porto
Portugal

Bart Lambrecht

University of Cambridge - Judge Business School ( email )

Trumpington Street
Cambridge, CB2 1AG
United Kingdom
44-(0)-1223-339700 (Phone)
44-(0)-1223-339701 (Fax)

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Grzegorz Pawlina

Lancaster University - Department of Accounting and Finance ( email )

The Management School
Lancaster LA1 4YX
United Kingdom
+ 44 1524 592834 (Phone)
+ 44 1524 847321 (Fax)

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