Consumer Bankruptcy becoming more Common
As the economy worsens, bankruptcy filings are on the rise. According to the American Bankruptcy Institute, consumer filings rose to 1.06 million in 2008, compared with 801,840 during 2007. The ABI based its study on data from the National Bankruptcy Research Center. Additionally, the National Association of Consumer Bankruptcy Attorneys jumped by one-third in 2008, to an estimated 3,200 practicing lawyers. "Consumers are under great financial stress, with no immediate end in sight," said ABI executive director Samuel Gerdano. More than 1.3 million people in the United States are expected to file in 2009. While this is a relatively small part of the U.S. population, the number demonstrates that bankruptcy is not just something for ‘someone else,’ but instead, something for those who find themselves overwhelmed by today’s unsteady economy. Bankruptcy can provide a fresh start for the individual who finds him or herself in a difficult financial situation. So, while filing for bankruptcy may have in the past been something that no one wants to talk about, for many, it ends up being the light at the end of the tunnel—the saving grace that allows them to get their life back on track.
There has been considerable public debate on the relative merits of alternative consumer bankruptcy rules. The option to discharge one's debt provides
partial insurance against bad luck, but by driving up interest rates makes life cycle smoothing more difficult. We construct a quantitative model of consumer bankruptcy to address this trade-off. We argue that such a model should have three key features: a life-cycle component, idiosyncratic earnings uncertainty and expense uncertainty (exogenous negative shocks to household balance sheets). We find that transitory and persistent earnings shocks have very different implications for evaluating bankruptcy rules. More persistent shocks
make the bankruptcy option more desirable. Larger transitory shocks have the opposite effect. Our findings suggest the current US bankruptcy system may
be desirable for reasonable parameter values.