Keywords

household leverage, installment debt, mental accounting, auto loans

Abstract

We provide evidence of mental accounting in the market for consumer installment debt and argue that increases in credit supply have been an important contributor in the recent rise in auto debt through a demand-for-maturity channel. Since the Great Recession, auto debt has grown faster than any other category of U.S. consumer credit and now eclipses credit cards in total debt outstanding. Simultaneously, auto-loan maturities have increased such that more than half of 2016 auto-loan originations had a term of over 65 months. We document three phenomena we jointly refer to as monthly payment targeting using data from millions of auto loans issued by hundreds of credit unions. First, using discontinuities in the contract terms offered by lenders with an instrumental-variables regression-discontinuity design to estimate demand elasticities, we find borrowers to be much more sensitive to maturity than to interest rate, consistent with existing work finding that payment size is more salient to borrowers than the total cost of a loan. Second, many consumers appear to employ segregated mental accounts, spending much of unanticipated monthly payment savings on larger loans as if having budgeted a set amount per month for a given category of spending. Third, consumers bunch at salient round-number monthly payment amounts, suggesting the use of monthly budgeting heuristics. The resulting strong preference for long-maturity loans, combined with increases in aggregate credit supply, explains around 15% of the growth in household debt since 2012.

Original Publication Citation

“Monthly Payment Targeting and the Demand for Maturity” with Taylor Nadauld and Christopher Palmer. Review of Financial Studies, November 2020.

Document Type

Peer-Reviewed Article

Publication Date

2018

Publisher

Review of Financial Studies

Language

English

College

Marriott School of Business

Department

Finance

University Standing at Time of Publication

Associate Professor

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