世界银行 - Debt Relief for Households in Developing Economies-此为英文文档

PublicDisclosureAuthorizedPublicDisclosureAuthorized

PolicyResearchWorkingPaper10819

DebtReliefforHouseholdsinDevelopingEconomies

SashaIndarteMartinKanz

WORLDBANKGROUP

DevelopmentEconomics

DevelopmentResearchGroupJune2024

PolicyResearchWorkingPaper10819

Abstract

Householdsindevelopingeconomieshavegreateraccesstoformalcredittodaythanatanypointinhistory,owingtotheglobalexpansionofmicrofinanceandrecentinnova-tionsinconsumerfinance,suchasdigitallending.Althoughthishasimprovedtheabilitytosmoothconsumptionandinvestinproductiveactivities,ithasalsoraisedconcernsaboutover-indebtedness.Againstthisbackground,thispaperreviewsandextendstheliteratureondebtreliefforhouseholdsindevelopingcountries.Itbeginsbylayingoutasimplestylizedmodelthatillustratesthecostsandbenefitsofdebtrelief.Themodelisusedtoguidethereviewoftheevidenceonvariousreliefpolicies,suchasdebtforbearance,

debtforgiveness,andpersonalbankruptcy.Thepaperaddi-tionallypresentssurveyevidencefromapopulationofmicrofinanceandbankborrowerswithrecentexposuretodebtrelief.Theresultshighlightthatanimportantdown-sideofdiscretionarydebtreliefpolicies,whicharecommonindevelopingcountries,istheirpotentialtoaffectborrowerexpectationsandcreatemoralhazard.Thedevelopmentoflegalbankruptcyinstitutionsthatofferarules-basedavenuetodischargeunsustainabledebtsisapromisingpathtoalleviatethecreditmarketinefficienciesthathaveoftenaccompanieddebtreliefinitiativesindevelopingeconomies.

ThispaperisaproductoftheDevelopmentResearchGroup,DevelopmentEconomics.ItispartofalargereffortbytheWorldBanktoprovideopenaccesstoitsresearchandmakeacontributiontodevelopmentpolicydiscussionsaroundtheworld.PolicyResearchWorkingPapersarealsopostedontheWebat

/prwp

.Theauthorsmaybecontactedatmkanz@.

ThePolicyResearchWorkingPaperSeriesdisseminatesthefindingsofworkinprogresstoencouragetheexchangeofideasaboutdevelopmentissues.Anobjectiveoftheseriesistogetthefindingsoutquickly,evenifthepresentationsarelessthanfullypolished.Thepaperscarrythenamesoftheauthorsandshouldbecitedaccordingly.Thefindings,interpretations,andconclusionsexpressedinthispaperareentirelythoseoftheauthors.TheydonotnecessarilyrepresenttheviewsoftheInternationalBankforReconstructionandDevelopment/WorldBankanditsaffiliatedorganizations,orthoseoftheExecutiveDirectorsoftheWorldBankorthegovernmentstheyrepresent.

ProducedbytheResearchSupportTeam

DebtReliefforHouseholdsinDeveloping

Economies*

PreparedfortheOxfordReviewofEconomicPolicy

Sasha

Indarte†

MartinKanz‡

Keywords:Debtrelief,debtforbearance,personalbankruptcy,moralhazardJEL:G51,G18,G21,D15,H81

*Thisversion:June24,2024.WearegratefultoNicolásDeRoux,MuhammadMeki,SimonQuinn,ananonymousreferee,andnumerousseminarparticipantsforhelpfulcommentsandsuggestions.RadhikaKaulprovidedoutstandingresearchassistance.TheopinionsexpressedinthispaperdonotnecessarilyrepresenttheviewsoftheWorldBank,itsexecutivedirectors,orthecountriestheyrepresent.

†TheWhartonSchool,UniversityofPennsylvania,Email:aindarte@wharton.upenn.edu.‡WorldBankandCEPR,Email:mkanz@.

2

1Introduction

Householdsindevelopingeconomieshavegreateraccesstoformalcredittodaythanatanypointinhistory,owingtotheglobalexpansionofmicrofinanceandinnovationsinconsumercreditsuchasdigitallending(

WorldBank,

2021

).Whileimprovedaccesstocredithasclearbenefitsforconsumptionsmoothingandtheabilitytoinvestinproductiveactivities,italsomeansthathouseholdsaresaddledwithhigherlevelsofdebtthattheymaybeunabletorepayintheeventofanunanticipatedeconomicshock

.1

Thefinancialstabilityrisksassociatedwithelevatedlevelsofhouseholddebthavebecomeevidentinrecentcrisesthatwereaccompaniedbywidespreadmicrofinanceandconsumerloandefaults(

BrezaandKinnan,

2021;

MianandSufi,

2011;

Mianetal.,

2017

),andhavepromptedanactivedebateabouttheneedfordebtreliefandimprovedinsolvencyinstitutions—particularlyindevelopingeconomieswhereformalmechanismsfordebtresolutionareoftenunderdevelopedorentirelyunavailable.

Howcanpolicymakersbestdesigndebtreliefpoliciesforhouseholdsindevelopingcountries?Inthispaper,wereviewandextendtheavailableevidenceondifferentformsofdebtreliefandtheirimpactsonborrowerbehaviorandthecreditmarketasawhole.Throughoutthispaper,weusethetermmicrofinancebroadlytoencompassmicrocreditaswellasotherincreasinglyimportantformsofconsumercreditthathave,inmanycases,blurredthelinesbetweenindividualliabilitymicrofinance

andconventionalconsumerlending(KarlanandZinman,

2009;

deQuidtetal.,

2018)

.

Westartbyintroducingasimpleconceptualframeworkthatclarifiesthecostsandbenefitsofdebtrelieffromtheperspectiveofborrowersandlenders.Weextendthebasicmodeltoexploretwotypesofpolicyvariations.First,weexaminehowthecreditmarketreactiontodebtreliefpoliciesisalteredwhenthepolicyisrules-basedratherthandiscretionary(e.g.,legalbankruptcyinstitutionsversusadhocdebtrelief).Second,weexplorehowthepredictedcreditmarketimpactsofdebtreliefdifferwhenthecostsofdebtreliefarebornebygovernmentsversuscreditors.Themodelhighlightsthatoneimportantmechanismthroughwhichdebtreliefpoliciescancreateinefficienciesistheirpotentialeffectonborrowerandlenderexpectations.

Guidedbythisframework,wereviewtheexistingevidenceondebtrelief.Inourreview,wecontrastevidenceoninstitutionalizedformsofdebtrelief,suchaspersonalbankruptcy,withevidenceondiscretionaryformsofdebtrelief,suchasone-offdebtforbearance,debtrestructuring,anddebtfor-givenessprograms,whicharecommonindevelopingeconomies.Wedistinguishbetweentemporarydebtreliefpolicies,suchasforbearance,andpermanentdebtreliefpolicies,suchasdebtrestructuringordebtforgiveness.Beyondformaldebtrelief,wealsoconsiderdefactodebtreliefthatcanresultfromloandefaultorinflation.Foreachpolicy,weexaminetheimpactofdebtreliefonborrowers’short-termandlong-termdebtrepaymentobligationsandfutureaccesstocredit,thecostsofthepolicytothelender,aswellaspotentialeffectsofthepolicyoncreditmarketexpectationsinlightofourframework. Weconcludebypresentingsurveyevidencethatexploreshowdebtreliefshapesborrowerexpecta-tions.WeconductasurveythattakesadvantageofauniquepolicysettinginIndia,wheremicrofinanceandbankborrowerswereeligibleforbothdebtforbearanceanddebtforgivenessprogramsinthe

1

Between2008and2017,householddebt-to-GDPinemergingeconomiesincreasedfrom15to21percent(InternationalMonetaryFund,2017).

3

immediateaftermathoftheCovid-19crisis.Weelicitfirstandsecondorderbeliefsabouthowdebtreliefaffectsfuturerepayment,borrowing,andexpectationsoffuturerelief.Wecompareresponsesfordebtforgivenessandforbearance,aswellasforbeneficiariesandnon-beneficiariesofdebtrelief.

Overall,amajorityofrespondentsreportthatdebtreliefwouldmakethemmorelikelytorepay,applyfor,andbeapprovedforfutureloans.Thissuggestsanticipationofimprovedrepaymentcapacity,andiscontrarytowidespreadconcernsaboutmoralhazardinresponsetodebtrelief(see,forexample,

GinéandKanz

2018

and

Fiorin,HallandKanz

2023)

.Interestingly,respondentsaremorelikelytoreportanticipatingapplyingandreceivingcreditwhenoffereddebtforbearanceinsteadofdebtforgiveness.Thisisconsistentwithborrowersassociatinglessstigmawithforbearancecomparedtoforgiveness,perhapsbecauseforbearanceisseenasachancetoprovetheircreditworthiness.Non-beneficiariesreportthatdebtreliefpoliciesmakefuturedebtreliefmorelikelywhilebeneficiariesreportthatsuchpoliciesmakefuturerelieflesslikely.

Ourexplorationofdebtreliefindevelopingcountriesbeginswiththeobservationthatthereareseveralimportantdifferencesintheeconomicenvironmentthatshapehowhouseholdsinadvancedanddevelopingeconomiesaccumulateandresolvedebt.Householdsindevelopingeconomiesdifferintermsoftheeconomicactivitiestheyareengagedin,thenature,frequencyandseasonalityofeconomicshockstheyface,aswellasthefinancialcontractsthatareavailabletothemtomitigaterisksandsmoothconsumption.Similartolow-incomehouseholdsinadvancedeconomies,householdsindevelopingeconomiesfrequentlyengageinrepeatedformalandinformalborrowingathighinterestratesandarethereforeespeciallyvulnerabletopersistentdebttraps(

BanerjeeandDuflo,

2007;

Karlan

etal.,

2019;

Badarinzaetal.,

2019)

.2

Becausemanyhouseholdsindevelopingeconomiesareproducersaswellasconsumers,barrierstothereductionofunsustainabledebtsaffectnotonlyconsumptionbutalsohaveconsequencesforinvestmentincentivesandproductivity(see

Myers,

1977;

Krugman,

1988)

. Therearealsoimportantdifferencesintheinstitutionsfordebtresolutionavailabletohouseholdsinadvancedandemergingeconomies.Manyadvancedeconomiesoffersomeformofpersonalbankruptcyasarules-basedformofdebtreliefforhouseholdsinfinancialdistress.IntheUS,forexample,householdsobtainmorethan$450billionindebtreliefthroughthepersonalbankruptcysystemeachyear,withnearlyoneintenhouseholdshavingfiledforbankruptcyatsomepoint(

Keys,

2018;

DobbieandSong,

2015)

.Wherepersonalbankruptcyisavailable,itfunctionsasanimportantsocialsafetynet.Whenhouseholdslackinsuranceagainstadverseeventssuchasjoblossandillness,theoptiontodischargedebtinbankruptcyactsasadefactosourceofinsurance.EstimatesfromtheUSfindthattheinsurancevalueofbankruptcyislarge,equaling58.4%ofannualconsumptionforthemarginalbankruptcyfiler(

Indarte,

2023)

.Incontrast,mostdevelopingeconomieslackaneffectivepersonalbankruptcysystem.Morethanhalfofallemergingeconomieshavenolawsthatprovideforthedischargeofaninsolventindividual’sdebtandevenwherepersonalbankruptcylawsexist,overburdenedcourtsoftenmakeitdifficultforhouseholdsandsmallbusinessestoobtaindebtrelief. Newlyavailabledataonhouseholdbalancesheetsshowsthatdespitethesedifferences,therearenonethelesssomestrikingsimilaritiesinthefinancesofhouseholdsinadvancedandemergingeconomies.Householdsinadvancedandemergingeconomiesare,forexample,remarkablysimilarin

2

See,forexample,

BertrandandMorse

(2011)and

SkibaandTobacman

(2019)ondebttrapsandpaydaylendingintheUS

.

4

theirverylimitedabilitytoabsorbincomeshocks.Approximatelyhalfofallhouseholdsinemergingandadvancedeconomieslacksufficientliquidassetstosustainconsumptionanddebtpaymentsformorethanthreemonthsintheeventofanincomeloss—40%inadvancedeconomies,50%inemergingeconomies(

Badarinzaetal.,

2019

)

.3

Thisfigureispracticallyidenticalattheone-yearmarkandhighlightstheimportanceofeffectivedebtresolutionmechanisms,giventherapidlyincreasingparticipationoflow-incomehouseholdsintheformalcreditmarket.

Ourconceptualframeworkexploreshowdifferencesinthetypeandextentofdebtreliefavailabletohouseholdsshapecreditmarketoutcomesandborrowerexpectations.Inthemodel,wecontrasttheeffectsofrules-baseddebtreliefwiththoseofdiscretionarydebtreliefpolicies.Becausepersonalbankruptcyinstitutionsarelargelyabsentindevelopingeconomies,mostdebtresolutionoccursthroughadhocdebtreliefprogramsinitiatedbygovernments,regulators,orfinancialinstitutions,ratherthanrules-basedreliefthroughanestablishedlegalbankruptcyprocess.Whilesuchone-offpoliciesmaybepreferabletothealternativeofnodebtrelief,theyhaveanumberofdrawbacksrelativetoaninstitutionalizedbankruptcyprocess.Whendebtreliefisgovernedbydiscretionratherthanrules,debtreliefpoliciescandistortcreditmarketsbyalteringexpectationsabouttheavailabilityofreliefinthefuture.Suchexpectationscancreatemoralhazard,dependingonwhoultimatelybearsthecostofdebtrelief.Whencreditorsanticipatecompensationfromthegovernmentforforgivingorrestructuringdebt,thisweakensincentivestolendjudiciously.Creditsupplymayincreaseinanticipationoffuturedebtrelief.Theseincreasescanbeinefficientwhencreditorsdonotinternalizecostsbornebytaxpayerswhoendupsubsidizingriskylending.Whenanticipateddebtreliefinsteadreducespenaltiesfordefault,andcreditorsbearthecostsofdefault,moralhazardonthepartofborrowerscanincreaseexantedemandforcreditandexpostdefault.However,anticipatingmoredefaultmotivatescreditorstorestrictlendingexante,thuslimitingaccesstocredit.Ourreviewoftheliteratureexplorestowhatextentthepredictionsofoursimplemodelmatchtheempiricalevidenceondebtrelief,borrowerexpectations,andmoralhazard.

Theremainderofthepaperproceedsasfollows.Section

2

laysoutastylizedmodelofdebtreliefandpresentscomparativestaticsdescribingtheeffectsofdebtforbearanceanddebtrestructuringunderalternativemodelassumptions.Insection

3

,wediscussthevarioustypesofdebtreliefprogramsimplementedinpracticeandreviewtheexistingevidenceontheeffectoftheseprograms.Section

4

presentsevidenceontheeffectsofdebtreliefonborrowerexpectations,usingsurveydatafromapopulationofmicrofinanceborrowerswithrecentexposuretodebtrelief.Section

5

discussespromisingdirectionsforfutureresearchandconcludes.

2TheCostsandBenefitsofDebtRelief:ConceptualFramework

Thissectionpresentsasimplemodelofconsumerborrowing,default,anddebtreliefpoliciesthatbuildson

Indarte

(2022,

2023)

.Weusethemodeltohighlightdifferencesinthecostsandbenefitsofdifferentdebtreliefpolicies.

3

SeealsoBadarinzaet.al.“Howhasthepandemicaffectedhouseholdfinancesindevelopingeconomies?”EconomicsObservatoryBlog,June2021.

5

Wefirstcontrastadhocandinstitutionalizedformsofdebtrelief.Adhocpoliciesarerelativelymorecommonindevelopingeconomies.Theyareintroducedunexpectedlyand,whenimplemented,canleadhouseholdsbeliefstochange,andraiseexpectationsthatdebtreliefislikelytobeofferedagaininthefuture.Institutionalizeddebtreliefentailsgovernmentsandregulatorscommittingtoaspecificsetofrulesgoverningwhobearsthecostsofdefault

.4

Forexample,consumerbankruptcysystemsinadvancedeconomiestypicallyoutlinewhatkindsofdebtcanbedischargedandtheextenttowhichfilersmustcompensatecreditors.Thecostsofdefaultarethereforetransparentandpredictablefordebtorsandcreditorsalike.

Thesecondtypeofpolicyvariationweconsideriswhobearsthecostofdefault.Webeginbyfocusingonpolicieswheredebtreliefresultsinatransferfromcreditorstoborrowers.Thereareavarietyofwayssuchpoliciescanbeimplementedinpractice,butforconcretenessweformulatethisfirstpolicyasdebtforbearance.Thesecondpolicyvarietyinsteadtransfersresourcesfromnon-defaultingtaxpayerstocreditorsandborrowersintheformofsubsidizeddebtforgiveness.Thecrucialdifferencebetweenthesepoliciesishowtheyimpactcreditorincentivestolend.Whencreditorsbearthecostsofdebtrelief,andifadhocreliefincreasesexpectationsoffuturerelief,creditorswillrestricttheirlendingtoreducefuturelosses.Incontrast,whencreditorsarecompensatedfortheirlosses,thismakesthemmorewillingtolend.

BenchmarkModel.Agroupofhouseholdslivefortwoperiods,t∈{1,2}.Theybeginperiod1withlegacydebtb1whichhascumulativedistributionfunctionB1(·).Atthebeginningofeachperiod,theylearntheirincomeyt,whichisi.i.d.andhasdistributionY(·).

Eachperiod,householdschooseconsumption,borrowing,andwhetherornottodefaultontheirinitialperiod1debt.Defaultinperiodtentailsautilitycostσt>0andalsoprecludesthehouseholdfromaccessingfinancialmarketstoborroworsave.Whenrepayinginperiod1,householdsareabletoaccessfinancialmarketsandborroworsaveusingone-periodbondsb2,withinterestrate

R2(b2,y1,E(σ2))=.Weassumetheinterestrateisincreasingintheamountborrowed

(b2),decreasinginincome(y1),anddecreasingintheexpectedcostofdefault(E(σ2))

.5

Weassumethatallagentsintheeconomyhavethesamebeliefsabouttheexpectedcostofdefault.Wedenote

consumptionwhenrepayingbycand,whendefaulting,byc.Budgetconstraintswhenrepayingand

defaultingaregivenby

c=y1−b1+q2b2c=y2−b2

c=y1c=y2.

Wemodeldefaultsimilarlyto

BornsteinandIndarte

(2023)inthatdefaultcorrespondstomissinga

paymentandtheactofdefaultingdoesnotgivetheborrowera“freshstart”inthesenseoferasingtheirdebt.Thismakesdefaultinourmodelmoresimilartodelinquencythanbankruptcy.Afterlearningtheirperiodtincome,eachhouseholdchooseswhethertorepayordefaultinordertomaximizetheirexpectedutility,subjecttotheirbudgetconstraintandtakingthemenuofinterestratesasgiven.

4

Wemodeldifferencesbetweenadhocandinstitutionalizedpoliciessimilarlyto

AuclertandMitman

(2022)

.

5

Onecouldmicrofoundtheseassumptionsusingasettingsimilarto

Chatterjeeetal.

(2007)

.

6

Utilityfromconsumptionineachperiodisu(ct),whereu(·)isastrictlyincreasingandstrictlyconcavefunction.Formally,householdssolve

Vt(yt,bt)=max{Vtr(yt,bt),Vd(yt,bt)}.wheretheirpayoffsfromrepayinganddefaultingeachperiodare:

V(y1,b1)=maxu(c)+E[V2(y2,b2)]

b2,c

V2r(y2,b2)=u(c)

V(y1,b1)=u(c)−σ1+E[V2(y2,b1)]V2d(y2,b2)=u(c)−σ2.

TheHouseholdDefaultDecision.Thehouseholddefaultswhentheirexpectedpayofffromdoingsoishigherthanthepayofffromrepayment.Inperiod2,defaulthappenswhen

V2d(y2,b2)≥V2r(y2,b2),

whichoccurswhen

u(y2)−σ2≥u(y2−b2).

Defaultoccurswhenincomefallsbelowathresholdy(b2),whichdependsonthehousehold’slevelofdebt.Moredebtmakesdefaultmoredesirableateverylevelofincome,sothatthethresholdisincreasingindebt.Thethresholdisthevalueofincomesuchthattheaboveinequalityholdswithequality.Similarly,period1defaultischaracterizedbyathresholdrule,wheredefaultoccurswhenincomeisbelowy(b1)wherey(b1)satisfies

b2

u(y)−σ1+E[V2(y2,b1)]=maxu(y−b1+q2b2)+E[V2(y2,b2)].(1)

Figure

1

plotsanexampleofperiod1defaultandborrowingbehaviorinequilibrium.Thegraphonthelefthandsideofthefigureplotstheregionsinwhichthehouseholdoptstodefaultasafunctionofdebtandincome.Atlowlevelsofdebt,evenlow-incomeborrowersavoiddefault.Butasdebtrises,defaultbecomesmorelikelyatalllevelsofincome.Athighlevelsofdebt,theincomethresholdatwhichhouseholdsdefaultrises.

ThegraphontherighthandsideofFigure

1

illustrateshowdefaultrisklimitsequilibriumborrowing.Theamountofnewborrowinginperiod1(q2b2)isinitiallyincreasingwiththeamountofdebtpromisedtoberepaidinthefuture(b2).However,asfuturepaymentsgrowlarger,creditorsanticipatethatdefaultwillbemorelikelyinthefuture.Endogenously,theinterestrateriseswithnewborrowing,asdefaultriskgrows.Borrowingbeginstoleveloffandeventuallydecreasestozeroasthepromisedrepaymentb2grows.Theriseoftheendogenousinterestrateinresponsetohigherdefaultriskmeansthathouseholdseffectivelyfaceanendogenousborrowingconstraint.

7

Figure1:EquilibriumProperties

1.5

Income(y1)

1.0

0.5

0.5

0.0

−0.5

−1.0

−1.5

−2.0

Period1default

Repay

Default

−2−1012

Initialdebt(b1)

Borrowedfunds(q2xb2)

−2−1012

Newdebt(b2)

2.1DebtForbearance

Wefirstusethebenchmarkmodeltostudytheeffectsofdebtforbearance.Wemodeldebtforbearanceasadecreaseinthecostofdefault.Intuitively,thisreflectshowforbearanceenableshouseholdstopausepayments,effectivelydefaulting,withreducedpenalties.Specifically,wemodeladhocforbearanceasaone-time,unexpecteddecreaseintheperiod1defaultcost,σ1.Althoughwedonotmodelthelender’sproblemexplicitly,forsimplicity,weinterpretforbearance-induceddecreasesindefaultcostsasbeingzerosum,resultinginlowercreditorrecoveriesindefault.Thiscaptureshowforbearancetransfersresourcesfromcreditorstoborrowersbyreducingnonpaymentpenaltiesaswellasthecreditor’sexpectednetpresentvalueofloanrepaymentsbydelayingrepayment.

Weinitiallyassumethatchangesinperiod1defaultcosts(σ1)donotaffectbeliefsaboutfuturedefaultcosts(E(σ2)).Wewilllaterrelaxthisassumption.

Figure

2

illustratestheeffectsofthedebtforbearancepolicyondefaultingandborrowing.Thelefthandsidegraphshowsthatreducedperiod1defaultcostsmakeperiod1defaultmorelikely,shiftingthedefaultregiontotheleft.Byholdingconstantinitialdebtb0,thechangeinperiod1costsareeffectivelyasurprisetobothborrowersandlenders.Assuch,thereisnoscopeforinitialdebtb0toadjustinresponsetothisadhocdebtreliefpolicy.Ifcreditorsknewpriortoperiod1thatdefaultcostswoulddecreaseinperiod1,theywouldprefertolendless.However,thesurpriseelementofthispolicymeansthattheydonotcurtailtheirlendinginanticipation.Suchananticipatorycreditcontractionwouldlimitexpostdefault,aslowerdebtweakenstheincentivetodefault.

Equilibriumborrowingtypicallydoesnotchangeormayslightlyincrease,dependingonthepersistenceofincome.Therighthandsidegraphoffigure

2

showsascenariowhereincomeisnotpersistent,whichresultsinborrowinglimits(q2b2)remainingunchangedasafunctionofnewdebt(b2).Withoutincomepersistence,futuredefaultonlydependsontheamountborrowedandthecostofdefault.However,withoutbeliefsaboutperiod2defaultcostschanging,thereisnoanticipatedchangeinperiod2default,andcreditaccessinperiod1isunchanged.

8

Figure2:EffectofLowerDefaultCostsonDefaultandBorrowing

1.5

Income(y1)

1.0

0.5

0.5

0.0

−0.5

−1.0

−1.5

−2.0

Period1default

Repay

Default

−2−1012

Initialdebt(b1)

Borrowedfunds(q2xb2)

High

Low

Defaultcost:

−2−1012

Newdebt(b2)

However,ifinsteadincomewerepersistent,borrowinglimitscouldincrease.Thiscomesfromareductioninadverseselectionfacingcreditors.Onlynon-defaultinghouseholdsmayborrow,andwhenthelowestincomenon-defaultersswitchtodefaultingduetothedeclineinperiod1costs,averageincomeamongthepoolofnon-defaultersishigher.Persistentincomemeansthatthesehouseholdsareexpectedtohavehigherincomeinperiod2aswell,andwouldthusbelesslikelytodefault.

DebtForbearancewhenBeliefsChange.Now,supposethattheunexpecteddecreaseinperiod1defaultcostsleadseveryonetoexpectforbearanceinperiod2.Specifically,expecteddefaultcostsinperiod2E(σ2)alsodecreasebythesameamountwhenperiod1costs,σ1,decrease.

Theexpectationoffutureforbearancechangeshouseholdandlenderbehaviorinseveralways.Lowerfuturedefaultcostsmakefuturedefaultmorelikely,allelseequal.Anticipatingthis,period1creditorsrequireahigherinterestratetocompensateforthisincreaseinrisk.Ingeneral,equilibriumborrowingmayriseorfall.Demandfordebtincreasesasitsexpected,effectivecostfallswhendefaultislesscostlyandmorelikely.However,thesupplyofdebtdecreasesasexpectedcreditorlossesgrow.

Figure

3

plotshowperiod1defaultandcreditaccessreactwhenforbearancealsoincreasesexpectationsoffutureforbearance.Thelefthandsidegraphshowsthatperiod1defaultincreasesslightlyforlow-incomehouseholds.Thesearehouseholdsthat,absentthechangeinbeliefs,wouldhaveavoideddefaultandinsteadborrowedsubstantially.However,becausecreditaccessdecreases(rightgraph),thesehouseholdsnowprefertodefaultinperiod1insteadofpayingextremelyhighinterestrates.

Theprimarysocialcostofexpandedforbearanceisthisreductionincreditsupply.Althoughthecostofthisincreaseindefaultisbornedirectlybycreditors,non-defaultinghouseholdsultimatelybearmuchofthesecosts,astheircostofcreditaccessrises.Themoreforbearancepoliciesincreaseexpectationsoffutureforbearance,andthemoresensitivecreditsupplyistodefaultrisk,themorecostlyforbearancebecomes.

9

Figure3:EffectofLowerDefaultCostsonDefaultandBorrowingwhenBeliefsChange

1.5

Income(y1)

1.0

0.5

Period1default

Repay

Default

−2−1012

Initialdebt(b1)

Borrowedfunds(q2xb2)

Defaultcost:

Low

Low+Expecta

High

0.5

0.0

−0.5

−1.0

−1.5

−2.0

−2−1012

Newdebt(b2)

2.2DebtForgiveness

Wenextextendthemodeltoexaminetheeffectsofdebtforgivenessprograms,acommontypeofdebtreliefextendedtobankandmicrofinanceborrowersindevelopingcountries.

ModelwithDebtForgiveness.Weallowthegovernmenttoforgiveaportionofhouseholdd