Labor market upheaval, default regulations, and consumer debt

RePEc Short ID: pyo3
ORCID iD: 0000-0001-9703-4095

Athreya, Kartik B.; Sanchez, Juan M.; Tam, Xuan S.; Young, Eric

Working Paper

Labor market upheaval, default regulations, and consumer debt

Abstract: In 2005, bankruptcy laws were reformed significantly, making personal bankruptcy substantially more costly to file than before. Shortly after, the US began to experience its most severe recession in seventy years. While personal bankruptcy rates rose, they rose only modestly given the severity of the rise in unemployment, perhaps as a consequence of the reform. Moreover, in the subsequent recovery, households have been widely viewed as ?develeraging? (Mian and Sufi (2011), Krugman and Eggertson (2012)), an interpretation consistent with the largest reduction in the volume of unsecured debt in the past three decades. In this paper, we aim to measure the role jointly played by recent bankruptcy reforms and labor market risks during the Great Recession in accounting for the use of consumer credit and debt default. We use a setting that features high-frequency life-cycle consumption-savings decisions, defaultable debt, search frictions, and aggregate risk. Our results suggest that the 2005 bankruptcy reform likely prevented a substantial increase in bankruptcy filings, but had only limited effect on the observed path of delinquencies. Thus, the reform appears to have ?worked.? We also find that fluctuations in the job separation rate observed over the Great Recession did not significantly affect the dynamics of default; all of the work is done, instead, by the large decline in the job-finding rate.

JEL Classification: D9; E21; K35;