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The so called portfolio approach to credit supply (for an overview see Fase (1995)) starts with the assumption that banks maximize a utility function under a set of balance sheet constraints which allows to derive directly credit supply functions. However, the derivation assumes a perfect financial market while treating the private sector (comprising the corporate and household sectors) as one homogeneous entity. These limitations restrict the use of this model when trying to address the specific issues related to corporate finance in imperfect markets. The demand for any type of credit – including firm’s demand for commercial bank credit. | WORKING PAPER NO. 05-18 A QUANTITATIVE THEORY OF UNSECURED CONSUMER CREDIT WITH RISK OF DEFAULT Satyajit Chatterjee Federal Reserve Bank of Philadelphia Dean Corbae University of Texas Austin Makoto Nakajima University of Illinois Jose-Victor Rios-Rull University of Pennsylvania NBER CEPR CAERP June 2001 Revised May 2002 Revised August 22 2005 We wish to thank Costas Meghir and three anonymous referees for very helpful comments on an earlier version of this paper. We also wish to thank Nick Souleles and Karsten Jeske for helpful conversations and attendees at seminars at Complutense Pompeu Fabra Pittsburgh Stanford Yale and Zaragoza universities and the Cleveland and Richmond Feds Banco de Portugal the 2000 NBER Summer Institute the Restud Spring 2001 meeting the 2001 Minnesota Workshop in Macro Theory the 2001 SED the 2002 FRS Meeting on Macro and Econometric Society Conferences. Rios-Rull thanks the National Science Foundation the University of Pennsylvania Research Foundation and the Spanish Ministry of Education. The views expressed in this paper are those of the authors and do not necessarily reflect those of the Federal Reserve Bank of Philadelphia or of the Federal Reserve System. The working paper version of this paper is available free of charge at www.philadelphiafed .org econ wps index.html ABSTRACT We study theoretically and quantitatively the general equilibrium of an economy in which households smooth consumption by means of both a riskless asset and unsecured loans with the option to default. The default option resembles a bankruptcy filing under Chapter 7 of the U.S. Bankruptcy Code. Competitive financial intermediaries offer a menu of loan sizes and interest rates wherein each loan makes zero profits. We prove existence of a steady state equilibrium and characterize the circumstances under which a household defaults on its loans. We show that our model accounts for the main statistics regarding bankruptcy and unsecured credit while matching key .