Breaking the cycle of exclusion: how past negative credit experiences shape rural household recovery from shocks

Purpose Rural households in China face frequent income shocks amid limited social protection, yet past negative credit experiences (NCEs) may discourage the use of formal credit when it is most needed for recovery. This study examines how NCEs shape households’ formal credit re-engagement under shocks, the underlying behavioral mechanisms, and the conditioning factors under which such re-engagement and recovery can be restored. Design/methodology/approach Using longitudinal rural household data from China, we combine a dynamic resilience framework with matching methods to address selection bias and identify the causal effects of NCEs on credit application behavior and post-shock recovery. We further examine behavioral mechanisms through self-inefficacy and mental accounting, and assess how household traits, rural financial infrastructure, and policy-driven institutional commitments condition credit re-engagement. Findings Rural households with prior NCEs are significantly less likely to apply for formal credit following shocks, even when demand persists. We find no compensating increase in informal borrowing, implying that behavioral exclusion leads households to forgo an effective shock-buffering channel and thereby weakens recovery. Mechanism analyses indicate that this withdrawal operates through heightened self-inefficacy and loss-account activation, reflecting psychologically amplified perceptions of rejection risk and borrowing costs. Re-engagement is more likely among households with lower financial cognition but higher social trust and stable income, and in regions with stronger financial infrastructure or institutional signaling. Originality/value This study advances understanding of credit withdrawal by highlighting behavioral exclusion as a key barrier to financial inclusion and extends the pecking order hypothesis to account for psychological aversion rather than purely structural constraints. It offers policy-relevant insights for designing inclusive credit systems that support rural household recovery.