The Welfare Economics of “Bounce Protection” Programs

Document Type

Article

Publication Date

3-2010

Department

School of Business

Abstract

Much attention has been given to a new practice called bounce protection whereby banks pay rather than bouncing “bad” checks. Criticism of the practice largely stems from the four-digit interest rates implicit in these “bounced check loans.” We apply welfare economic analysis to analyze the impact of bounce protection on all parties to the transaction: banks, payers, and payees. Revealed preference analysis under standard rationality assumptions shows that when a bad check has been written, bounce protection is a welfare-enhancing policy, even though its presence increases the incidence of bounced checks. We argue that it is highly likely that this result still holds when we extend the analysis to incorporate various behavioral anomalies. Finally, we cite results from other empirical research to quantify some of the key impacts of bounce protection that our analysis predicts.

First Page

55

Last Page

73

Volume

33

Issue

1

ISSN

01687034

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