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The Debt-Payment-to-Income Ratio as an Indicator of Borrowing Constraints: Evidence from Two Household Surveys

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  • The opinions, analyses, and conclusions in this paper are solely those of the authors and do not necessarily reflect those of the Board of Governors of the Federal Reserve System or its staff. The authors would like to thank the editor, Masao Ogaki, and two anonymous referees, as well as Orazio Attanasio, Chris Carroll, Karen Dynan, Fumiko Hayashi, and seminar participants at the Federal Reserve Board, the 2007 Midwest Macro Meetings, the 2007 Federal Reserve System Applied Microeconomics Conference, the 2007 NBER Summer Institute, and the Federal Deposit Insurance Corporation's Center for Financial Research for helpful comments on an earlier draft. All remaining errors are our own.

Abstract

Liquidity constraints have been proposed as an important explanation for deviations from the rational expectations/permanent income hypothesis. This paper introduces to the liquidity constraint literature the ratio of a household's debt payments to its disposable personal income, the debt service ratio (DSR). We find that a household with a high DSR is significantly more likely to be turned down for credit than other households. Also, the consumption growth of likely constrained households, identified using the DSR along with the liquid-asset-to-income ratio, is significantly more sensitive to past income than that of other households, confirming the DSR's value in identifying constrained households.

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