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Contract Terms, Employment Shocks, and Default in Credit Cards

Sara G. Castellanos¹; Diego Jiménez-Hernández²; Aprajit Mahajan³; Eduardo Alcaraz Prous⁴; Enrique Seira⁵

¹ Banco de México, México · ² Federal Reserve Bank of Chicago · ³ Department of Agricultural & Resource Economics, UC Berkeley and NBER , USA · ⁴ Instituto Mexicano del Seguro Social, México · ⁵ Department of Economics, University of Notre Dame and JPAL, USA

Abstract Regulatory concerns over a tension between expanding financial access and limiting default have led to significant restrictions on contract terms in a number of countries, despite limited evidence on their effectiveness. We use a large nation-wide RCT to examine new borrower responses to changes in interest rates and minimum payments for a credit card that accounted for 15% of all first-time formal loans in Mexico. Default rates were 19% over the 26 month experiment and a 30 pp decrease in interest rates decreased default by 2.5 pp with no effects on the newest borrowers. Doubling minimum payments increased default by 0.8 pp during the experiment but reduced it by 1 pp afterwards, possibly by reducing debt. Matching the experimental sample to their formal employment histories we find that the effect of job separation—more common among new borrowers—on default is seven times larger than the effect of the 30 pp interest rate change. We provide a simple framework for interpreting the experimental results, and rationalize the smaller contract term effects by their limited effects on cash flow rather than by differences in per-peso impacts.

DOI

10.1093/restud/rdaf079

Volume

93 (4)

Pages

2451-2489

Language

en

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