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Using elasticities to derive optimal bankruptcy exemptions

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  • Dávila, Eduardo
Abstract
This paper studies the optimal determination of bankruptcy exemptions for risk averse borrowers who use unsecured contracts but have the possibility of defaulting. I show that, in a large class of economies, knowledge of four variables is sufficient to determine whether a bankruptcy exemption level is optimal, or should be increased or decreased. These variables are: the sensitivity to the exemption level of the interest rate schedule offered by lenders to borrowers, the borrowers’ leverage, the borrowers’ bankruptcy probability, and the change in bankrupt borrowers’ consumption. An application of the framework to US data suggests that the optimal bankruptcy exemption is higher than the current average bankruptcy exemption, but of the same order of magnitude. JEL Classification: D52, E21, D14

Suggested Citation

  • Dávila, Eduardo, 2016. "Using elasticities to derive optimal bankruptcy exemptions," ESRB Working Paper Series 26, European Systemic Risk Board.
    • Handle: RePEc:srk:srkwps:201626
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    Cited by:

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    2. David Sraer & David Thesmar, 2018. "A Sufficient Statistics Approach for Aggregating Firm-Level Experiments," NBER Working Papers 24208, National Bureau of Economic Research, Inc.

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    More about this item

    Keywords

    bankruptcy; default; general equilibrium with incomplete markets; sufficient statistics; unsecured credit;
    All these keywords.

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • K35 - Law and Economics - - Other Substantive Areas of Law - - - Personal Bankruptcy Law
    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance

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