The Impact of Earned Wage Access on Household Liquidity and Financial Well-Being

Abstract

In this paper, we analyze the impact of liquidity constraints on household financial well-being, notably, the relationships between pay frequency, transient financial hardship, and ensuing financial outcomes. Specifically, we analyze the impact of Earned Wage Access (EWA), which allows employees and contractors to access earned wages more frequently and on-demand compared to regularly scheduled payments.

A significant fraction of U.S. households face liquidity constraints. In these households, an unexpected expense, even if only of a few hundred dollars, can produce significant costs such as overdraft fees, payday loan charges or strategic non-payment of bills. Consequently, even households with incomes that roughly match annual expenses may face significant costs associated with simply matching income with expenses.

Primarily impacting lower-income groups that lack assets and access to traditional credit, costs associated with managing their liquidity cause significant short- and longer-term financial harm, which we define in terms of direct and indirect costs. The former category constitutes costs such as payday loan charges and has been widely covered by academics and policymakers. Indirect costs have received far less attention. These constitute decisions impacted by liquidity constraints that have longer-term negative impact, such as resorting to strategic non-payment of a bill, which in the longer-term makes a household even less likely to gain access to credit. We argue that both direct, and in-direct costs of managing household liquidity need to be viewed in conjunction, as indirect costs can be as costly as even the most expensive forms of credit.

EWA has the potential to alleviate some of the financial strains households experience when managing their liquidity. Notably, EWA can create an alternative to expensive credit options such as payday loans. It is also a benefit that can increase both worker satisfaction and retention. EWA has also been rapidly adopted by large/traditional employers such as Walmart and Wendy’s, and gig-worker platforms such as Uber and DoorDash. Even as both employers and platforms embrace the potential of EWA, we are not yet able to fully determine the impact of more frequent access of earned wages. As the adoption of EWA is a fairly recent development, there is little academic research that offers insight into its impact on employees, employers and society. This paper provides an overview of the potential impact of EWA in relation to the financial well-being of employees and outlines the need for further empirical research.

Looking at how increased pay frequency will impact households; we find two major contradicting forces in terms of impact on spending and savings behavior.

First, EWA can potentially alleviate financial hardship by replacing more expensive credit-based options used by households to manage their liquidity. Notably, EWA can potentially alleviate the need for expensive payday loans. Consequently, EWA will have limited impact on higher earners with access to cheap short-term credit, but, for the more than 20% of U.S. households that are either unbanked or underbanked and have no other option but to resort to payday loans or other forms of expensive credit, EWA can result in substantial savings and a net improvement of their financial wellbeing.

Second, being paid more often (frequently) results in an increased perception of wealth, causing individuals to potentially spend more and save less. The impact of this effect is uncertain. If a household has an annual income that comfortably exceeds annual expenses, the potential impact of increased pay frequency might be decreased savings – as illustrated by infrequent payouts, such as annual bonuses, often resulting in increased saving. This type of household would still be able to cover their expenses, even if their savings declined as a consequence of more frequent pay. But, if a household has smaller margins, i.e., an annual income that is roughly equal to annual expenses, being paid more frequently or on demand might result in not having enough money for rent at the end of the month. This concern is closely related to self-control and financial literacy. Consequently, the ability to counter the effect of increased wealth perception is essential for EWA to improve financial outcomes.

EWA providers and employers are aware of these concerns and developed two strategies to address them: limiting access to accrued wages and coupling EWA with tools aimed at improving budgeting and financial planning. Examples of the latter are solutions that predict household cash-flow, so that money is set aside for upcoming expenses and savings goals. This allows for household liquidity improvement by management of both the timing of income, and timing of expenses when users gain a better understanding of their financial situation. An example is the Even app, that aims to provide employees with a consistent amount of money left to spend after every paycheck.

In sum, EWA has the potential to have a positive impact on the financial well-being of low-income households with small margins that are likely to be unbanked or underbanked – as these households are those that are likely to use more expensive forms of credit such as payday loans and strategic non-payment of bills. However, EWA solutions should be mindfully designed so that; 1) EWA access is balanced to prevent overspending, so that not all earned wages are immediately accessible, and 2) earned wage access is integrated with tools for improved financial literacy, budgeting, and financial planning.

As earned wage access becomes pervasive among both employees and freelance workers, additional research is essential to shed light on its impact on household financial wellbeing and best practices. Notably, additional empirical research to inform optimal levels of earned wage access and design of integrated tools for budgeting. Research on the dynamics of how households manage their liquidity and choose between credit and EWA is also needed.

Keywords: Earned Wage Access, Pay Frequency, Household Finance, Household Discounting, Modigliani-Miller

JEL Classification: H3, H31