Tighter Credit and Consumer Bankruptcy Insurance

56 Pages Posted: 29 Jan 2020

See all articles by António Antunes

António Antunes

Bank of Portugal

Tiago Cavalcanti

University of Cambridge

Caterina Mendicino

Bank of Portugal; European Central Bank (ECB) - Directorate General Research

Marcel Peruffo

Brown University

Anne Villamil

University of Iowa

Date Written: January 2020

Abstract

How does bankruptcy protection affect household balance sheet adjustments and aggregate consumption when credit tightens? Using a tractable model of unsecured consumer credit we quantify the trade-off between the insurance and the creditworthiness effects of bankruptcy in response to tighter credit. We show that bankruptcy dampens the effect of tighter credit on aggregate consumption on impact. This is because it allows borrowers to sustain consumption against severe financial distress. However, by leading to consumers' exclusion from the credit market for a certain period, bankruptcy also reduces their ability to smooth consumption over time, implying a slower recovery. The bankruptcy code establishes how costly it is to default, and, thus, plays a crucial role in determining consumers' bankruptcy decisions and in shaping consumption dynamics. We quantify that the 2005 BAPCPA reform, by making filing for bankruptcy more costly, worsened the negative welfare effects of the subsequent credit tightening.

Keywords: BAPCPA, Chapter 7, Deleveraging

JEL Classification: E44, E52, E58, G21, G32

Suggested Citation

Antunes, António and Cavalcanti, Tiago and Mendicino, Caterina and Peruffo, Marcel and Villamil, Anne, Tighter Credit and Consumer Bankruptcy Insurance (January 2020). CEPR Discussion Paper No. DP14330. Available at SSRN: https://ssrn.com/abstract=3526055

António Antunes (Contact Author)

Bank of Portugal ( email )

Rua Francisco Ribeiro, 2
Lisbon, 1150-165
Portugal

Tiago Cavalcanti

University of Cambridge ( email )

Trinity Ln
Cambridge, CB2 1TN
United Kingdom

Caterina Mendicino

Bank of Portugal ( email )

Rua Francisco Ribeiro, 2
Lisbon, 1150-165
Portugal

European Central Bank (ECB) - Directorate General Research ( email )

Kaiserstrasse 29
D-60311 Frankfurt am Main
Germany

Marcel Peruffo

Brown University ( email )

Box 1860
Providence, RI 02912
United States

Anne Villamil

University of Iowa ( email )

341 Schaeffer Hall
Iowa City, IA 52242-1097
United States

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