Bankruptcy again

by John Q on March 23, 2005

I’ve been reading Todd Zywicki’s paper An Economic Analysis Of The Consumer Bankruptcy Crisis (1Mb PDF). Zywicki’s approach is to look at aggregate time-series data on a set of suggested causes of rising bankruptcy, suggest that the pattern for these time-series doesn’t match the observed increase in bankruptcy, The main point is, as he says,

Static or declining variables, such as unemployment, divorce, or health care costs, cannot explain a variable that is increasing in value, such as bankruptcy filing rates.

Hence, he says, the ‘traditional model’ of bankruptcy as a “last resort” outcome of financial distress is no longer valid. He therefore falls back on the residual hypothesis of changes in consumer behavior in the form of an increased willingness to resort to bankruptcy, possibly due to the rise of impersonal modes of lending and the decline of moral sanctions. Zywicki doesn’t mention the other obvious residual possibility: an exogenous increase in willingness to lend to high-risk borrowers, but symmetry suggests he ought to.

I don’t think Zywicki’s is the ideal research strategy (see below) but it has the advantage that anyone can play, armed only with Google. So let me point to a variable that has risen in the right way and could reasonably be expected to lead to rising rates of bankruptcy. That variable is the volatility of individual income, or, in simpler terms, the economic risk faced by the average person.

What this means is that the bankruptcy ‘crisis’ is an outcome of the general changes in the US economy over the past 30 years or so. If it weren’t for expanded credit and increased reliance on bankruptcy, the distress caused by growing inequality and income volatility would have been substantially greater. If bankruptcy laws are tightened, distress will increase. To put it simply, bankruptcy is the lesser of two evils.

I’m not getting continuations to work. There’s a full version at my blog.



Daniel 03.23.05 at 6:53 pm

I think I emailed my point to Todd when he was asking for comments on an earlier draft. The trouble with this analysis is that it’s based on quintile averages, and on average people, even in the lowest quintile, don’t go bankrupt. Any form of aggregation destroys a lot of information about individual volatility of income, and all the longitudinal studies suggest that this has increased significantly over time. I’m not aware of any better way to do the analysis, but all it leaves me with is the feeling that it’s very difficult to say anything definitive about the drivers of bankruptcy at the whole-economy level.


JMOORE 03.23.05 at 8:48 pm

I can’t download the link because it asks for a password.


John Quiggin 03.23.05 at 9:08 pm

Sorry about that. There’s another link at Todd Zywicki’s homepage


Tom Maguire 03.23.05 at 11:31 pm

Your approach strikes me as either (a) dazzlingly insightful, or (b) grindingly obvious.

But since Zywicki missed it, I’ll go with with (a).

And frankly, the notion that credit card companies just lend more aggressively now gets that same (a), (b) breakdown.

When I was young, and had to walk barefoot in the snow to the bank to file a credit application (uphill both ways), getting a credit card involved more than just opening the mailbox and seeing what cards fell out.

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