Working Paper: CEPR ID: DP3160
Authors: Giuseppe Bertola; Stefan Hochguertel; Winfried Koeniger
Abstract: Interest rates on consumer lending are lower when funds are tied to purchase of a durable good than when they are made available on an unconditional basis. Further, dealers often choose to bear the financial cost of their customers? credit purchases. This Paper interprets this phenomenon in terms of monopolistic price discrimination. We characterize consumers? intertemporal consumption decisions when their borrowing and lending rates are different not only from each other, but also from the internal rate of return of financing terms for a specific durable good purchase. A stylized model offers a closed-form characterization of purchase decisions as a function of the amount and timing of consumers? resources, of the spread between the borrowing and lending rates, and of the pricing of cash and credit purchases. We then study theoretical and empirical relationships between the structure of financial markets, the distribution of potential customers? current and future income, and incentives for durable-good dealers to price-discriminate by subsidizing their liquidity-constrained customers? installment-payment terms. Our empirical analysis takes advantage of a rich set of installment-credit and personal-loan data, which offer considerable support for the assumptions and implications of our theoretical perspective.
Keywords: Financial market development; Liquidity constraints; Price discrimination
JEL Codes: D10; D42; G20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| interest rates on loans for durable goods (E43) | lower interest rates compared to general consumption loans (G51) |
| collateralization (G33) | lower interest rates (E43) |
| dealers engage in monopolistic price discrimination (D42) | different financing terms for liquidity-constrained vs cash-rich customers (G21) |
| financial characteristics of consumers (D12) | pricing structure for consumer credit (G21) |
| interest rate differentials across consumer loan instruments (E43) | broader financial market conditions (G19) |