TY - JOUR

T1 - Household liquidity and incremental financing decisions

T2 - theory and evidence

AU - Cunha, M Ricardo

AU - Lambrecht, B M

AU - Pawlina, G

N1 - The definitive version is available at www.blackwell-synergy.com

PY - 2011/9

Y1 - 2011/9

N2 - In this paper we develop a stochastic model for household liquidity. In the model, the optimal liquidity policy takes the form of a liquidity range. Subsequently, we use the model to calibrate the upper bound of the predicted liquidity range. Equipped with knowledge about the relevant control barriers, we run a series of empirical tests on a panel data set of Dutch households covering the period 1992-2007. The results broadly validate our theoretical predictions that households (i) exhaust most of their short-term liquid assets prior to increasing net debt, and (ii) reduce outstanding net debt at the optimally selected upper liquidity barrier. However, a small minority of households appear to act sub-optimally. Poor and vulnerable households rely too frequently on expensive forms of credit (such as overdrafts) hereby incurring substantial amounts of fees and fixed borrowing costs. Elderly households and people on social benefits tend to accumulate too much liquidity. Finally, some households take on expensive short-term credit while having substantial amounts of low-yielding liquid assets.

AB - In this paper we develop a stochastic model for household liquidity. In the model, the optimal liquidity policy takes the form of a liquidity range. Subsequently, we use the model to calibrate the upper bound of the predicted liquidity range. Equipped with knowledge about the relevant control barriers, we run a series of empirical tests on a panel data set of Dutch households covering the period 1992-2007. The results broadly validate our theoretical predictions that households (i) exhaust most of their short-term liquid assets prior to increasing net debt, and (ii) reduce outstanding net debt at the optimally selected upper liquidity barrier. However, a small minority of households appear to act sub-optimally. Poor and vulnerable households rely too frequently on expensive forms of credit (such as overdrafts) hereby incurring substantial amounts of fees and fixed borrowing costs. Elderly households and people on social benefits tend to accumulate too much liquidity. Finally, some households take on expensive short-term credit while having substantial amounts of low-yielding liquid assets.

KW - household finance

KW - liquidity management

KW - net debt

KW - Brownian motion

U2 - 10.1111/j.1468-5957.2011.02248.x

DO - 10.1111/j.1468-5957.2011.02248.x

M3 - Journal article

VL - 38

SP - 1016

EP - 1052

JO - Journal of Business Finance and Accounting

JF - Journal of Business Finance and Accounting

SN - 1468-5957

IS - 7-8

ER -