Working Paper

The IT revolution and the unsecured credit market

Abstract: Consumer bankruptcies rose sharply over the last 20 years in the U.S. economy. During the same period, there was impressive technological progress in the information sector (the IT revolution). At the same time, pricing of unsecured debt changed dramatically. The dispersion of interest rates rose substantially. More importantly, interest rates varied systematically with the borrowers' characteristics in 2004 but not in 1983. This suggests that changes in the information that lenders use to price debt may be behind changes in the unsecured credit market. A model of unsecured borrowing with asymmetric information is developed to analyze this hypothesis. The effect of changes in the cost of information on borrowing and bankruptcy is explained with the help of a two-period version of the model. A calibrated model is used to study the implications of the IT revolution further. Quantitative exercises show that information costs have a significant effect on the bankruptcy rate. Additionally, a drop in information costs generates other changes (e.g. the projection of the borrowers' characteristics on interest rates) similar to what has occurred over the last 20 years.

Keywords: Information technology; Consumer credit;

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Bibliographic Information

Provider: Federal Reserve Bank of St. Louis

Part of Series: Working Papers

Publication Date: 2010

Number: 2010-022