The law says that people have a right to avoid unsecured debts by seeking bankruptcy protection. Creditors know that everybody they lend to has this option. It’s expensive to borrow in this kind of world because lenders must charge extra for the very real possibility that they won’t be able to fully collect. In effect, bankruptcy law disables those who possess few assets from making commitments to fully repay debts.
Why do we foist this “protection” on all households? If we lived in a society that allowed borrowing but forbade defaulting under any circumstances (an admittedly extreme and unrealistic scenario) it would become significantly cheaper to borrow. In the models I’ve looked at, the gains accruing per U.S. household would be equivalent to as much as $280 a year. These gains encompass everything from cheaper borrowing costs to eliminating after-the-fact punishments like stigma.
…I believe we should offer some form of bankruptcy, albeit with strings attached. Means-testing, while piecemeal, seems like a small step in the right direction…
His research page is here and it includes many articles on bankruptcy. He argues here for harsh default penalties, again to lower the cost of credit. For a contrasting perspective, defending relative leniency, here is Megan McArdle.