Fixed versus variable rate financing: The influence of borrower,lender, and market characteristics

Previous research has analyzed the problem faced by borrowers who must choose between fixed rate and variable rate loans when each loan carries different cost and risk characteristics and the borrowers face various income and employment prospects. In addition, the existing literature contains theoretical and empirical studies of how lenders react when given the ability to offer both fixed and variable rate financing. This article unifies the two strands of research to develop and test a model of the equilibrium proportion of variable rate lending. Results indicate that factors related to borrower, lender, and market characteristics are significant determinants of the equilibrium proportion of variable rate credit originated.     

THE SENSITIVITY OF THE PRIME RATE TO MONEY MARKET CONDITIONS

Commercial banking's institutional setting can make one bank's profits dependent upon the pricing strategies of its rivals. In this environment, widely disseminated prime rate quotes, loan contracts with “most-favored-customer” clauses, and rule-of-thumb pricing techniques can result in prime rate outcomes that jointly maximize banks' market values. In this paper the relationship between the prime and money market rates is examined over the last decade to determine if the prime rate behaves more like a competitive money market rate than an oligopolistic price.     

CREDIT CONSTRAINTS IN THE MARKET FOR CONSUMER DURABLES: EVIDENCE FROM MICRO DATA ON CAR LOANS*

We investigate the significance of borrowing constraints in the market for consumer loans. Using data from the Consumer Expenditure Survey on auto loan contracts we estimate the elasticities of loan demand with respect to interest rate and maturity. We find that, with the exception of high income households, consumers are very responsive to maturity and less responsive to interest rate changes. Both elasticities vary with household income, with the maturity elasticity decreasing and the interest rate elasticity increasing with income. We argue that these results are consistent with the presence of binding credit constraints in the auto loan market.