Banking

Seismic Effects Of The Bankruptcy Reform

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Executive Summary

The authors argue that the 2005 Bankruptcy Abuse Reform (BAR) contributed to the surge in subprime foreclosures that followed its passage. Before BAR, over-indebted mortgagors could free up income to pay the mortgage by filing bankruptcy and having their unsecured debts discharged. BAR blocks that maneuver for better-off filers by way of a means test. They identify the effects of BAR using state home equity bankruptcy exemptions; filers in low-exemption states were not very protected before BAR, so they would be less affected by the reform. Difference-in-difference regressions confirm four predictions implied by that identification strategy. The findings add to research trying to explain the surge in subprime foreclosures and to a broader literature on household bankruptcy demand and credit supply.

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