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Credit, Wages and Bankruptcy Laws

Listed author(s):
  • Biais, Bruno
  • Mariotti, Thomas

We study the impact of different bankruptcy laws in general equilibrium, taking into account the interactions between the credit and labour markets, as well as wealth heterogeneity. Soft bankruptcy laws often preclude liquidation, to avoid ex-post inefficiencies. This worsens credit rationing, depresses investment and reduces aggregate leverage. Yet, tough laws do not necessarily maximize social welfare or emerge from the legislative process. Relatively rich agents can invest irrespective of the law. They favour soft laws that exclude poorer entrepreneurs from the market and thus reduce labour demand and wages. This raises the pledgeable income of the entrepreneurs who still can raise funds, and thus lowers their liquidation rates and the associated inefficiencies. Hence, a soft law can maximize social welfare.

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Paper provided by Institut d'Économie Industrielle (IDEI), Toulouse in its series IDEI Working Papers with number 289.

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Date of creation: Jan 2008
Publication status: Published in Journal of the European Economic Association, vol. 7, n°5, septembre 2009, p. 939-973.
Handle: RePEc:ide:wpaper:1568
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