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Evidence on the insurance effect of bankruptcy exemptions

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  • Grant, Charles
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    Abstract

    Defaulting on one's debts when experiencing an adverse event can help insure households against unexpected income risks. But the effect of allowing default on debt levels is ambiguous, not least because lenders may restrict access to credit. Hence the optimal punishment for bankruptcy is unclear. The US states allows householders to keep a variety of assets when filing for bankruptcy - the 'bankruptcy exemptions' - and these exemptions change substantially between states and over time. By exploiting these differences this study shows that raising the exemptions (i) marginally decreases the level of unsecured debt that household's hold; (ii) makes consumption smoother. Thus, despite the effect on debt levels, the generous provisions to debtors in arrears may be helping US households to insure themselves against income risk.

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    File URL: http://www.sciencedirect.com/science/article/B6VCY-4YF5R5P-2/2/03a0f99e8ed7465274604c85a1a27bc4
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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Banking & Finance.

    Volume (Year): 34 (2010)
    Issue (Month): 9 (September)
    Pages: 2247-2254

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    Handle: RePEc:eee:jbfina:v:34:y:2010:i:9:p:2247-2254

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    Web page: http://www.elsevier.com/locate/jbf

    Related research

    Keywords: Consumption Bankruptcy law Debt Insurance;

    References

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    1. Reint Gropp & John Karl Scholz & Michelle White, 1996. "Personal Bankruptcy and Credit Supply and Demand," NBER Working Papers 5653, National Bureau of Economic Research, Inc.
    2. Zinman, Jonathan, 2010. "Restricting consumer credit access: Household survey evidence on effects around the Oregon rate cap," Journal of Banking & Finance, Elsevier, vol. 34(3), pages 546-556, March.
    3. Berkowitz, Jeremy & Hynes, Richard, 1999. "Bankruptcy Exemptions and the Market for Mortgage Loans," Journal of Law and Economics, University of Chicago Press, vol. 42(2), pages 809-30, October.
    4. Richard Blundell & Luigi Pistaferri & Ian Preston, 2008. "Consumption Inequality and Partial Insurance," American Economic Review, American Economic Association, vol. 98(5), pages 1887-1921, December.
    5. Daglish, Toby, 2009. "What motivates a subprime borrower to default?," Journal of Banking & Finance, Elsevier, vol. 33(4), pages 681-693, April.
    6. Angus Deaton & Christina Paxson, 1993. "Intertemporal Choice and Inequality," NBER Working Papers 4328, National Bureau of Economic Research, Inc.
    7. Kartik Athreya, 2004. "Fresh start or head start? Uniform bankruptcy exemptions and welfare," Working Paper 03-03, Federal Reserve Bank of Richmond.
    8. Angus Deaton, 1989. "Saving and Liquidity Constraints," NBER Working Papers 3196, National Bureau of Economic Research, Inc.
    9. Athreya, Kartik B., 2002. "Welfare implications of the Bankruptcy Reform Act of 1999," Journal of Monetary Economics, Elsevier, vol. 49(8), pages 1567-1595, November.
    10. William R. Zame, 1992. "Efficiency and the Role of Default When Security Markets are Incomplete," UCLA Economics Working Papers 673, UCLA Department of Economics.
    11. Mace, Barbara J, 1991. "Full Insurance in the Presence of Aggregate Uncertainty," Journal of Political Economy, University of Chicago Press, vol. 99(5), pages 928-56, October.
    12. Attanasio, Orazio P & Weber, Guglielmo, 1993. "Consumption Growth, the Interest Rate and Aggregation," Review of Economic Studies, Wiley Blackwell, vol. 60(3), pages 631-49, July.
    13. Pliska, Stanley R. & Ye, Jinchun, 2007. "Optimal life insurance purchase and consumption/investment under uncertain lifetime," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1307-1319, May.
    14. Qi, Min & Yang, Xiaolong, 2009. "Loss given default of high loan-to-value residential mortgages," Journal of Banking & Finance, Elsevier, vol. 33(5), pages 788-799, May.
    15. Deaton, Angus, 1992. "Understanding Consumption," OUP Catalogue, Oxford University Press, number 9780198288244.
    16. Scott Fay & Erik Hurst & Michelle J. White, 2002. "The Household Bankruptcy Decision," American Economic Review, American Economic Association, vol. 92(3), pages 706-718, June.
    17. Jonathan Zinman, 2005. "Debit or credit?," Conference Series ; [Proceedings], Federal Reserve Bank of Boston.
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    Cited by:
    1. Aloisio Araujo & Bruno Funchal, 2013. "How much should debtors be punished in case of default?," Fucape Working Papers 41, Fucape Business School.
    2. Nejadmalayeri, Ali & Singh, Manohar, 2012. "Corporate taxes, strategic default, and the cost of debt," Journal of Banking & Finance, Elsevier, vol. 36(11), pages 2900-2916.

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