Asset Exemption in Entrepreneurs’ Bankruptcy and the Informative Role of Collateral

Working papers CRENOS (Contributi di ricerca), 2016

64 Pages Posted: 28 Oct 2019 Last revised: 31 Oct 2019

See all articles by Luca Deidda

Luca Deidda

Università degli Studi di Sassari - Department of Economics and Business; Universita di Cagliari - Centre for North South Economic Research (CRENOS)

Gianfranco Enrico Atzeni

University of Sassari - Dip.to di Economia Impresa e Regolamentazione; Universita di Cagliari - Centre for North South Economic Research (CRENOS)

Pasqualina Arca

affiliation not provided to SSRN

Date Written: 2016

Abstract

If an entrepreneur files for bankruptcy under Chapter 7, (i) most of her debt is discharged, and (ii) only her non-exempt assets are liquidated. Entrepreneurs can undo this “insurance” by posting collateral. The opportunity cost of doing so is lower for safer entrepreneurs who face a lower probability of default. Accordingly, we show that under adverse selection, as exemption increases, collateral becomes a more effective sorting device. As a result, an entrepreneur’s decision to post collateral improves access to credit and reduces the cost of credit to a greater extent the larger the exemption is. Econometric tests using data from the US Survey of Small Business support our theory.

Keywords: Screening, Separation, Pooling, Exemption, Collateral, Credit rationing, Cost of credit

JEL Classification: D82, E51, G33, K35

Suggested Citation

Deidda, Luca and Atzeni, Gianfranco Enrico and Arca, Pasqualina, Asset Exemption in Entrepreneurs’ Bankruptcy and the Informative Role of Collateral (2016). Working papers CRENOS (Contributi di ricerca), 2016. Available at SSRN: https://ssrn.com/abstract=3472035

Luca Deidda (Contact Author)

Università degli Studi di Sassari - Department of Economics and Business ( email )

via Muroni 25
Sassari, Sassari 07100
Italy

Universita di Cagliari - Centre for North South Economic Research (CRENOS) ( email )

Italy

Gianfranco Enrico Atzeni

University of Sassari - Dip.to di Economia Impresa e Regolamentazione ( email )

Viale Regina Margherita 15
07100 Sassari
Italy
39-079-228939 (Phone)

Universita di Cagliari - Centre for North South Economic Research (CRENOS) ( email )

V. S. Ignazio 78
Cagliari, 09124
Italy

Pasqualina Arca

affiliation not provided to SSRN

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