Working Papers

Working Paper, September 2003

Publication type: Working paper

Abstract

This paper studies the extent and consequences of procrastination and systematic planning fallacy in credit card usage and borrowing, in the attempt to explain widespread credit card borrowing at high rates and seemingly sub-optimal responses to changes in the terms of use. I build a simple model that captures these phenomena, compare its predictions with those of other theories of consumption and borrowing behavior and delineate empirical strategies to evaluate the model with data on household financial portfolios. The role of alternative explanations involving rational time-consistent individuals facing transaction costs in the loan markets or exhibiting risk aversion and precautionary motives against future income uncertainty is analyzed and empirical implications aimed at distinguishing among the competing explanations are suggested. In addition, the consequences of the different degrees of awareness of the procrastination problems and the effect of imperfect learning about one's will power are briefly discussed and constitute directions of future investigation. The results contribute to the understanding of consumer borrowing behavior, the reasons people are late in paying and the reasons they stop paying, and therefore to evaluate their riskiness and design better credit policies.

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