The Economics of Legal Uncertainty
74 Pages Posted: 22 Nov 2022 Last revised: 24 Oct 2024
Date Written: October 24, 2024
Abstract
In this paper, we examine how legal uncertainty affects economic activity. We develop a model that distinguishes between two types of legal uncertainty that can impede economic growth: idiosyncratic and systematic legal uncertainty. We test the model's predictions using micro-level data on bankruptcy judges and corporate loans in Korea. To compute time-varying court-level measures of legal uncertainty, we exploit random case assignment to judges and exogenous judge rotations in the judicial system. Our results show that firms tend to file for restructuring in courts with lower levels of legal uncertainty. We also find that higher legal uncertainty leads to smaller credit markets, predominantly for high-risk firms. Our analysis further indicates that credit supply is less sensitive to idiosyncratic legal uncertainty than credit demand, as banks can diversify idiosyncratic legal uncertainty across borrowers.
Keywords: Bankruptcy, law and economics, legal uncertainty, uncertainty.
JEL Classification: G31, G32, G33, G38, K22.
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