Moral Hazard versus Liquidity in Household Bankruptcy

Abstract

ABSTRACTThis paper studies the role of moral hazard and liquidity in driving household bankruptcy. First, I estimate that increases in potential debt forgiveness have a positive, but small, effect on filing using a regression kink design. Second, exploiting quasi‐experimental variation in mortgage payment reductions, I estimate that filing is five times more responsive to cash‐on‐hand than relief generosity. Using a sufficient statistic, I show the estimates imply large consumption‐smoothing benefits of bankruptcy for the marginal filer. Finally, I conclude that 83% of the filing response to dischargeable debt comes from liquidity effects rather than a moral hazard response to financial incentives.