"The aftermath of bankruptcy; household behavior eventually is relatively unchanged
Thursday, June 4, 2009
This recession produced a surge in delinquency rates across all types of loans (see left chart), stressing bank balance sheets. Bankruptcy is designed to give consumers and firms a "fresh start", and after 9 years the bankruptcy alert is removed from record.
A Fed paper, Household Borrowing after Personal Bankruptcy by Song Han and Geng Li, finds that delinquent borrowers revert to their old debtor ways after the 9-year threshold, borrowing more at sometimes higher rates. I wonder, how will the dizzying wave of recent government intervention affect consumer borrowing in 9 years?
Some key points from the paper:
Credit card debt: 0-9 years following bankruptcy, it remains on record for creditors to see, and supply is restricted. However, if there is access to credit, households tend to use the credit card more often than nonfilers. After 9 years, creditors no longer see the bankruptcy flag, and filers carry a larger debt burden. The authors claim that there may be a selection bias, as debtors wait until the 9-yr mark to accumulate debt.
Residential mortgages: After 9 years, bankruptcy filers have stronger demand for mortgages than nonfilers (not in paper, but probably to finance consumption through home-equity loans).
General conclusions from paper:
we document that, in general, bankruptcy filers have more restricted access to unsecured credit, and that, conditional on having access to credit, filers tend to borrow more on their credit cards and leverage more aggressively on collateralized loans. Filers also pay significantly higher borrowing costs across all types of credit.Hmmmm. Kind of makes you wonder how consumers will react and risk is priced once economic recovery is sustained, with credit card fees and terms being altered in order to assuage debtor grief, terms of mortgages being changed for some, and auto loans are financed at 0% rates by government-supported GMAC.
Financial hardship persists even more than ten years after the filings, suggesting that, for many bankrupt households, debt discharge may not have achieved its goal of providing a fresh start. In addition, our findings suggest that the credit risk for those who filed more than nine years earlier and thus have their bankruptcy flags removed from their records may not be correctly priced. While these filers are generally treated just like comparable nonfilers, they tend to have experienced more payment difficulties and have lower net worth.
It should be noted that this paper uses data spanning the years 1998-2004 when access and cost of credit was very different than it is now. However, nine years out, will there really be a discrete shift in household borrowing behavior?
It says that they get a fresh start. It doesn't say anything about changing. Consider this gap of years:
"Still, Japan's weakening economy is not the only cause of elderly crime, Yamada said. The current generation of seniors grew up in the confusion of the aftermath of World War II, when crime rates in Japan were at their highest, he said.
``They don't feel guilty because they were the generation who recorded the highest youth crime rates when they were young.''
Don the libertarian Democrat
I'm going to post Steely Dan doing "Do it again".