The Welfare Benefits of Pay-As-You-Go Financing

Abstract

Pay-as-you-go (PAYGo) financing is a novel financial contract that has recently become a popular form of credit, especially in low- and middle-income countries (LMICs). PAYGo financing relies on technology that enables the lender to cheaply and remotely disable the flow benefits of collateral when the borrower misses payments. This paper quantifies the welfare implications of PAYGo financing. We develop a dynamic structural model of consumers and estimate the model using a multi-arm, large scale pricing experiment conducted by a fintech lender that offers PAYGo financing for smartphones. We find that the welfare gain from access to PAYGo financing is equivalent to a 5.8% increase in income while remaining highly profitable for the lender. The welfare gains are larger for low-risk and intermediate-income consumers. Under reasonable assumptions about the repossession technology, PAYGo financing consistently outperforms traditional secured loans. For riskier consumers, an intermediate degree of lockout can be welfare maximizing.

Keywords: FinTech, Collateral, Lockout, Consumer Credit, Maturity Choice, Technology Adoption

JEL Classification: G21, G23, D14, D86