How Does Liquidity Affect Consumer Payment Choice?
46 Pages Posted: 22 Oct 2019
Date Written: 2019-08-01
We measure consumers' readiness to face emergency expenses. Based on data from a representative survey of US consumers, we find that financial readiness varies widely across consumers, with lowest-income, least-educated, unemployed, and black consumers most likely to have $0 saved for emergency expenses. For these consumers, even a temporary financial shock, either an unexpected negative income shock (such as a layoff or a short-term government shutdown) or an unexpected expenditure (such as a medical expense or a car repair), could have severe financial consequences. The literature likely underestimates the consequences, because consumers who are not financially prepared to cover unexpected expenses are more likely to borrow on their credit cards, adding to their existing debt. Thus the cost of relying on credit cards is likely very high for consumers who are already financially vulnerable. We use panel data to examine whether consumers who experienced a substantial drop in income from one year to the next, like one resulting from a layoff or a government shutdown, increased their credit card borrowing. We do not find evidence that a negative income shock raises consumers' likelihood of revolving on credit cards or increasing the amount borrowed.
Keywords: emergency savings, credit card debt, unexpected expenses
JEL Classification: D12, D14, D15, E21
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