Income Timing, Savings Constraints, and Temptation Spending

Why don’t poor people save more money? This topic – the barriers to saving money that poor people in developing countries face – is one of my major interests within development economics. I’ve written on this blog about the fact that people in poor countries who don’t have bank accounts don’t seem to want them, and that an inability to scare up small amounts of cash can literally be deadly. I’ve also written about clever approaches people have come up with to save more money.

Studying savings constraints has also been one of my major lines of academic research for the past few years. I’ve focused on a novel tool for getting around those constraints: in developing countries, employees often ask for their pay to be withheld from their regular paychecks and paid all at once in a lump sum.

Lasse Brune and I have just finished revising the first paper to come out of this research agenda. We find that deferred lump-sum wages increase people’s savings. This result is most likely due to savings constraints: people face an effective negative interest rate on money they save. (Potential reasons for negative interest rates include the possibility money can be lost or stolen, kin taxes, and the temptation to splurge on impulse purchases – though we find no evidence for the latter.)  The paper, “Income Timing, Savings Constraints, and Temptation Spending: Evidence From a Randomized Field Experiment”, is now available on SSRN. Here is the abstract:

We study a savings technology that is popular but underutilized in developing countries: short-term deferred compensation, in which workers receive a single, later lump sum instead of more frequent installments. Workers who are randomly assigned to lump-sum payments reduce the share of income they spend immediately by 25%, and increase short-term cash holdings by a third. They are 5 percentage points more likely to purchase an artificial “bond” offered through the study. These effects are most likely due to savings constraints: 72% of workers prefer deferred payments, and rationalizing workers’ choices without savings constraints requires implausibly low discount factors. Although workers report that temptation spending is an important driver of savings constraints, we find little evidence for that mechanism. Employers could enhance workers’ welfare at limited cost by offering deferred wage payments.

The paper can also be found on my website here and the online appendix is here. We posted it to SSRN and also on this blog because we are in the final stages of revising it to submit to academic journals – so we would be appreciate any feedback or suggestions you might have.

In addition, Lasse and I, along with Eric Chyn, are working on a new project that uses this idea to develop an actual savings product that we are offering to workers at the Lujeri Tea Estate. Workers can opt in to deferring a portion of their wages from each paycheck into a later lump sum payment. The project is currently entering baseline data collection, and early indications are that demand for deferred wages is high. We look forward to seeing how the product performs.

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