Round off to square up

3 minute read

The debt problem has taken on epic proportions the world over, with some estimates placing consumer debt at more than $4 trillion in the United States alone. Cue the cycle: As access to credit becomes easier and more streamlined, the bubble keeps growing and more debt flows into the overdue/default category, costing lenders all over the world billions of dollars on unpaid debt and late payments.

Can banks rely on any mental hacks to make customers repay their debts on time? Some researchers uncovered a few stunning revelations that might help. Hint: The key might be in round numbers.

The researchers started by analyzing data related to library fines and the lag between fine levy and payment. In the data analyzed, students had the option of either paying the fine when returning the books or on a later date (No incremental fine levy for payment delays). The researchers hypothesized that fine amounts ending with .00 and .50 would be paid faster than non-round or sharp numbers. Based on ~4000 data points, the researchers discovered that fine amounts ending with round numbers were more likely to be paid (37% more) at the time of book return than sharp numbers. In addition, for the fines not paid immediately, the fines ending with round numbers were 20% more likely to be paid than fines ending in sharp numbers.

But a question remained. Did the small magnitude of the fine have something to do with it? All fines were capped at $6, so did the availability of pocket change have an impact on this affinity to round numbers? To arrive at an answer, the researchers decided to test their theory on larger payment amounts, and obtained payment data related to cable bills (ranging between $100 - $1000).  They classified amounts ending with 0 or 5 dollars as round numbers and everything else was tagged as a sharp number. The results were similar where they observed that amounts ending with round numbers were 8.2% more likely to be paid on time (within 30 days) compared to amounts ending with sharp numbers.

After observing this phenomenon across two separate data sets, the researchers attributed it to a cognitive ease of processing when it comes to round numbers, and this having a direct link to action when it came to debt pay-off. Scope for practical application is immense – management of firms in the services business and banks could consider rounding down their payables to the lowest round number (with adequate cost benefit analysis on present value of additional funds due to early payment compared to round down amounts).

Original research by Mathew S. Isaac, Yantao Wang, Robert M. Schindler

https://myscp.onlinelibrary.wiley.com/doi/full/10.1002/jcpy.1192