Consumer durables and risky borrowing: The effects of bankruptcy protection

Abstract

This paper estimates a dynamic model of durable and non-durable consumption choice and default behavior in an economy where risky borrowing is allowed and bankruptcy protection is regulated by law. I exploit the substantial difference in the generosity of bankruptcy exemptions across the U.S. states to assess the role of durable goods as both informal collateral for unsecured debt and self-insurance against bad shocks to earnings. The model accounts for the equilibrium effects of bankruptcy protection on both consumer saving behavior and the credit market. In addition to providing reasonable estimates of the discount rate and risk aversion, I find that the generosity of bankruptcy protection does change both the incentives and the ability of households to accumulate durable wealth. The more generous the bankruptcy regulation, the lower the net durable wealth held by households in the first half of the life cycle before retirement. In order to minimize the default rate bankruptcy protection should be removed. The optimal level of exemption is positive but low.

Fresh start or head start? Uniform bankruptcy exemptions and welfare

“…This paper is related to Li and Sarte (2002), who study bankruptcy exemptions in a model with capital and exogenously limited unsecured debt. This paper also follows and extends work originating in the general equilibrium models of bankruptcy of Dubey et al (2000), Zame (1993), and Zha (2001), and is related to ongoing work of Chatterjee et al (2002), Lehnert and Maki (2001), Livshits et al (2003), and Pavan (2003). Chatterjee et al (2002) evaluate bankruptcy law in a small open-economy model of unsecured debt, and find a welfare improving role for means-testing of bankruptcy filers.…”

Consumer Bankruptcy: A Fresh Start

“…Marina Pavan (2005) incorporates durables and examines the effect of exemptions on bankruptcy filings.…”

Recent Developments in Consumer Credit and Default Literature

“…The first batch of bankruptcy models with multiple assets was used to study the effects of asset exemptions in bankruptcy (thus, requiring co-existence of assets and debts). These include Athreya (2006), Pavan (2008), and Mankart (2014). More recently, several papers, including White (2009), Li et al (2011), Luzzetti and Neumuller (2014a), and Mitman (2014), have investigated the relation between bankruptcy and mortgage defaults.…”