Unexpected Expenditure and High-cost Credit

This paper highlights the link between the utilization of high-cost consumer credits by wealth-poor households and the risks associated with household expenditures. Using the PSID and the SCF, I document that households with very limited liquid wealth and available credit while facing unexpected expenses are more likely to resort to high-cost credit options, such as payday loans. Furthermore, these unexpected expenses probably stem from specific spending categories, such as medical costs as well as vehicle and home repairs. For households at their borrowing constraints, occurrence of expenditure shocks tends to reduce consumption growth and savings rate, which impedes wealth accumulation. I discuss the role of expenditure shocks in models of consumption-savings and why they are crucial for understanding the demand for high-cost credits.