Are High-Interest Loans Predatory? Theory and Evidence from Payday Lending

59 Pages Posted: 18 May 2021 Last revised: 10 Sep 2021

See all articles by Hunt Allcott

Hunt Allcott

New York University (NYU)

Joshua J. Kim

Facebook Inc

Dmitry Taubinsky

University of California, Berkeley - Department of Economics

Jonathan Zinman

Dartmouth College; Innovations for Poverty Action; Jameel Poverty Action Lab; National Bureau of Economic Research (NBER)

Date Written: May 2021

Abstract

It is often argued that people might take on too much high-cost debt because they are present focused and/or overoptimistic about how soon they will repay. We measure borrowers' present focus and overoptimism using an experiment with a large payday lender. Although the most inexperienced quartile of borrowers underestimate their likelihood of future borrowing, the more experienced three quartiles predict correctly on average. This finding contrasts sharply with priors we elicited from 103 payday lending and behavioral economics experts, who believed that the average borrower would be highly overoptimistic about getting out of debt. Borrowers are willing to pay a significant premium for an experimental incentive to avoid future borrowing, which we show implies that they perceive themselves to be time inconsistent. We use borrowers' predicted behavior and valuation of the experimental incentive to estimate a model of present focus and naivete. We then use the model to study common payday lending regulations. In our model, banning payday loans reduces welfare relative to existing regulation, while limits on repeat borrowing might increase welfare by inducing faster repayment that is more consistent with long-run preferences.

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Suggested Citation

Allcott, Hunt and Kim, Joshua J. and Taubinsky, Dmitry and Zinman, Jonathan, Are High-Interest Loans Predatory? Theory and Evidence from Payday Lending (May 2021). NBER Working Paper No. w28799, Available at SSRN: https://ssrn.com/abstract=3847544

Hunt Allcott (Contact Author)

New York University (NYU) ( email )

Bobst Library, E-resource Acquisitions
20 Cooper Square 3rd Floor
New York, NY 10003-711
United States

Joshua J. Kim

Facebook Inc ( email )

Menlo Park, CA 94025
United States

Dmitry Taubinsky

University of California, Berkeley - Department of Economics ( email )

579 Evans Hall
Berkeley, CA 94709
United States

Jonathan Zinman

Dartmouth College ( email )

Hanover, NH 03755
United States
603-646-0075 (Phone)

HOME PAGE: http://https://sites.dartmouth.edu/jzinman/

Innovations for Poverty Action

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Jameel Poverty Action Lab

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National Bureau of Economic Research (NBER)

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