The cost-of-living crisis has exposed more people to the struggle of paying off loans, with the Financial Conduct Authority revealing that 10.9 million were falling behind in their repayments in 2023 compared to 7.8 million in 2022.

So, how can banks help people keep on top of the repayments?

The answer could be found in the world of behavioural science and its research into nudges. According to the pioneers of nudging, Nobel Laureate Richard Thaler and Harvard Professor Cass Sunstein, a nudge is any aspect of the ‘choice architecture’ that alters people's behaviour in a predictable way without forbidding any options or significantly changing their economic incentives.

We carried out a large-scale study with one of the biggest banks in Colombia to see if simply changing the text of messages to customers improved their ability to pay back loans.

We wrote six different nudges:

1. Reminder - this reminded customers of the financial implications of falling behind on payments.
2. Reciprocity - telling people the bank trusted them to give them the money, so it trusts the loan will be paid back on time.
3. Moral obligation – by paying on time they will have peace of mind.
4. Social norms – saying ‘did you know eight out of 10 people pay their loans on time?’
5. Socially responsible – revealing that the payment will help the bank invest in social projects like housing for the poor.
6. Socially responsible with a link – the same as five but also with a link to the bank’s Environmental, Social and Governance (ESG) practices.

We sent one of these messages to six groups of borrowers – totalling 7,029 late payers - every week for three months and sent no message to a seventh group.

Remarkably, we found that receiving any of the six messages decreased the probability that borrowers behind with their payments would continue to be late by 4%.

The social norms text was the most effective, with customers almost 7% less likely to miss their next payment.

The borrowers who benefited most were men, had a larger monthly income, a better education, a job, and higher credit scores, and were less indebted overall. Essentially, customers with a higher socioeconomic status were more likely to send a payment to the bank after receiving a text message.

Higher income customers responded more to the moral obligation message, while lower socioeconomic status borrowers responded more to financial contract reminders or social norms.  

Late payers who took unsecured loans from the bank, such as credit card debt or consumption loans, were more likely to positively change their behaviour after receiving these nudges than people with secured loans, such as mortgages.

So, banks should send different messages to high income customers compared to less financially stable borrowers, but if they can only send one to all borrowers appealing to social norms might be the best solution, as we found that they are on average the most effective in reducing late payments.

To read more on how to use nudges to stop loan defaults click here

Learn more on the online Global Central Banking and Financial Regulation programme

Twitter: @giorgiabarboni @WarwickBSchool

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