The Price of Bankruptcy
posted by Dave Hoffman
Credit Slips highlights a very cool new paper, Bankruptcy Spillovers: Distance, Public Disclosure, and Opaque Information. In the paper, Barry Scholnick examines bankruptcy filings in Canada at a micro level. Looking at the postal code of every filer – which code is a much more precise geographic identifier than our zip codes – Scholnick concludes:
“The punch line of my study is that there is indeed a significant impact from the past bankruptcies of neighbors (as defined by the very small Canadian Post Codes) to the probability that an individual in the neighborhood will file . . . I propose, and provide evidence for, the hypothesis that if a defaulter lives in a neighborhood with a large number of previous bankruptcies among the neighbors, then that individual will choose to default via bankruptcy rather than charge-off. This is because more neighborhood bankruptcies will lower stigma or provide more information about the process of bankruptcy.
On the other hand, I show that defaulters who live in low bankruptcy neighborhoods choose to default via charge-off rather than bankruptcy. This is consistent with the argument that low bankruptcy neighborhoods have higher levels of bankruptcy stigma, thus individual defaulters choose to default via charge-off in order to maintain more privacy about their default.”
This paper not only fits within a literature on bankruptcy, but also is a nice match to work by my co-author Tess Wilkinson-Ryan on how mortgage foreclosure and other forms of breach are socially mediated events. Abiding by onerous contracts is unpleasant, but we do it so long as it is socially validated. When it stops being socially normal to stick with terrible deals, we exit them.