FEWER BANKRUPTCIES IS BAD FOR THE ECONOMY!!
© David G. Hicks, Attorney at Law
When multimillionaire big shots like Bowie Kuhn – corporate lawyer and former commissioner of major league baseball – buy beach front mansions in Florida and then walk away from most of their debts by filing bankruptcy back in New York, it tended to rub the public the wrong way and enraged unpaid creditors. These rare but captivating news stories motivated the angry creditors to lobby for changes in the law and gave politicians the popular atmosphere in which to accomplish the changes.
It was these types of cases that created the perception that there was widespread abuse of the bankruptcy laws and led to the 2005 amendments to the bankruptcy laws. From the perspective of ten years hindsight, it is evident that there was in fact no rampant abuse, just these isolated, albeit outrageous examples.
Economist.com now reports that the so called reform “…may have done more harm than good.” According to the Economist’s report “Bankruptcy and the Economy/A Fresh Start” of March 14th, 2015, the intent of the 2005 amendments were to shift bankruptcy filers to a chapter 13 and at least partial debt repayment as opposed to chapter 7 liquidation. The law change only had that effect temporarily.
Now it appears that the longer term effect was to cause a decrease in bankruptcy filings of all kinds. Less than one million Americans filed for bankruptcy last year, the lowest number in a decade. Recent scholarly research indicates that this is not necessarily a good thing.
As reported in The Economist, Princeton Economics Professor Will Dobbie and Dr. Jae Song of the U.S. Social Security Administration found that micro economic effects are better when the bankruptcy laws are less stringent. Using a scientific research modality that compared Chapter 13 bankruptcy cases before the 2005 amendments with those after and then linked about a half a million filings to tax record, then analyzing and adjusting for the variable of leniency or strictness of individual judges, Professors Dobbie and Song found for example, that on average, those receiving bankruptcy discharges “earned over $6,000.00 more in the subsequent year” than those who did not wipe out their debts in bankruptcy. They theorize that when creditors no longer claim large chunks of a debtor’s salary, he or she has more incentive to work, and would be less likely to give up and quit jobs, skip town and close bank accounts. Keeping their jobs and having discretionary income to inject into the economy was good for the economy.
Professor Michelle White of the University of California at San Diego and some of her academic colleagues also looked at this issue. Professor White’s study found that the so-called bankruptcy reform of 2005 caused the default rate on prime mortgages to rise 23.00%. In the context of statistics from the Federal Reserve showing consumer debt rising for forty-one straight months and the persistently weak wages and low inflation, she concludes that it’s time to liberalize some of the decade old changes made in U.S. Bankruptcy laws. Whether or not that happens, and if so what effect such change will have remains to be seen by future research.