Informal debt contract and consumption : evidence from the vehicle scrappage program/

Abstract

This paper evaluate the influence of household heterogeneity on their decisions to take up the vehicle scrappage program (VSP) in China. The presence of debt owed to family and friends (DOFF) on household balance sheet significantly reduces the takeup rate of the cash for clunkers program in China, by approximately 1.57%. Moreover, this effect is stronger among households without a schedule for DOFF repayment, a formal debt contract, or positive interest rate. This suggests that informal finance can have shadow cost due to informal debt's potential recall risk, and non-pecuniary costs in the forms of social sanction. Moreover, I exploit a unique rebate mechanism of the VSP in China to show that the program design and household liquidity together play a big role in determining the take-up rate of the vehicle scrappage program.