Using elasticities to derive optimal bankruptcy exemptions

Eduardo Davila

No 26, ESRB Working Paper Series from European Systemic Risk Board

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

Keywords: bankruptcy; default; general equilibrium with incomplete markets; sufficient statistics; unsecured credit (search for similar items in EconPapers)
Date: 2016-10
New Economics Papers: this item is included in nep-ban
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Citations: View citations in EconPapers (2)

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Related works:
Journal Article: Using Elasticities to Derive Optimal Bankruptcy Exemptions (2020)
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Persistent link: https://EconPapers.repec.org/RePEc:srk:srkwps:201626

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