Liquidity Constraints and Imperfect Information in Subprime Lending

43 Pages Posted: 27 Jun 2007 Last revised: 1 Apr 2015

See all articles by William Adams

William Adams

Citigroup, Inc.

Liran Einav

Stanford University - Department of Economics; National Bureau of Economic Research (NBER)

Jonathan Levin

Stanford University - Department of Economics; Stanford Graduate School of Business; National Bureau of Economic Research (NBER)

Date Written: April 2007

Abstract

We present new evidence on consumer liquidity constraints and the credit market conditions that might give rise to them. Our analysis is based on unique data from a large auto sales company that serves the subprime market. We first document the role of short-term liquidity in driving purchasing behavior, including sharp increases in demand during tax rebate season and a high sensitivity to minimum down payment requirements. We then explore the informational problems facing subprime lenders. We find that default rates rise significantly with loan size, providing a rationale for lenders to impose loan caps because of moral hazard. We also find that borrowers at the highest risk of default demand the largest loans, but the degree of adverse selection is mitigated substantially by effective risk-based pricing.

Suggested Citation

Adams, William and Einav, Liran and Levin, Jonathan D., Liquidity Constraints and Imperfect Information in Subprime Lending (April 2007). NBER Working Paper No. w13067. Available at SSRN: https://ssrn.com/abstract=986917

William Adams (Contact Author)

Citigroup, Inc. ( email )

399 Park Avenue
6th Floor
New York, NY 10043
United States

Liran Einav

Stanford University - Department of Economics ( email )

Landau Economics Building
579 Serra Mall
Stanford, CA 94305-6072
United States
650-723-3704 (Phone)
928-223-4973 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jonathan D. Levin

Stanford University - Department of Economics ( email )

Landau Economics Building
579 Serra Mall
Stanford, CA 94305-6072
United States

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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