Time Inconsistency and Endogenous Borrowing Constraints

35 Pages Posted: 15 Jun 2020

See all articles by Joydeep Bhattacharya

Joydeep Bhattacharya

Iowa State University - Department of Economics

Monisankar Bishnu

Indian Statistical Institute, Delhi

Min Wang

National School of Development, Peking University

Date Written: June 11, 2020

Abstract

This paper studies the welfare of time-inconsistent, partially sophisticated agents living under two different regimes, one with complete, unfettered credit markets (CM) and the other with endogenous borrowing constraints (EBC) where the borrowing limits are set to make agents indifferent between defaulting and paying back their unsecured loans. The CM regime cannot deliver the first best because partially sophisticated agents would undo plans laid out by previous selves and borrow too much. Somewhat counterintuitively, in some cases, the EBC regime may deliver higher welfare than the CM regime. These results speak to the academic debate surrounding the creation and functioning of the CFPB (Consumer Financial Protection Bureau) in the U.S. and its implementation of the ability-to-repay rule on lenders after the 2007-8 crisis. Such institutions generate commitment publicly and may help time inconsistent agents economize on the costs of private commitment provision.

Keywords: endogenous borrowing constraints, overborrowing, financial protection

JEL Classification: E21, E70, G40, G28

Suggested Citation

Bhattacharya, Joydeep and Bishnu, Monisankar and Wang, Min, Time Inconsistency and Endogenous Borrowing Constraints (June 11, 2020). CAMA Working Paper No. 57/2020, Available at SSRN: https://ssrn.com/abstract=3624677 or http://dx.doi.org/10.2139/ssrn.3624677

Joydeep Bhattacharya

Iowa State University - Department of Economics ( email )

260 Heady Hall
Ames, IA 50011
United States
515-294-5886 (Phone)
515-294-0221 (Fax)

Monisankar Bishnu (Contact Author)

Indian Statistical Institute, Delhi ( email )

7 S .J. S.
Sansanwal Marg
New Delhi, 110016
India

HOME PAGE: http://https://www.isid.ac.in/~mbishnu

Min Wang

National School of Development, Peking University ( email )

No. 38 Xueyuan Road
Haidian District
Beijing, Beijing 100871
China

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