Reflections on the News Media's Version
of Bankruptcy Reform

EAssuming that a final revision of the Bankruptcy Reform Act is delivered to President Bush for his signature, it is worthwhile pausing to evaluate the cries of anguish from much of the news media. A perusal of recent newspaper articles reveals several basic flaws in economic analysis. The basic error of most of their analyses is that they pose the issue of bankruptcy reform as a conflict between lending institutions versus hapless consumers who have been lured into assuming unaffordable debt by these same institutions.

Most writers pose the reform as a benefit to banks and finance companies at the expense of consumers. Writers assert that banks and credit card companies have flooded gullible consumers with offerings of credit cards too attractive to refuse. (Elsewhere in this month's issue we noted that last year 99.4 percent of consumers did not respond to these solicitations.) But a bank is an institution, not a person. A bank is a corporation, a legal entity designed by attorneys to gather equity funds from consumers to invest in making loans to consumers and businesses. It feels neither joy nor pain as a result of a revision of the bankruptcy statute.

Consumers are the important stakeholders in bankruptcy reform. In the short run, there will be a jump in bankruptcy filings by consumers rushing to avoid the more stringent requirements for filing. If the new bankruptcy legislation is effective at discouraging some consumers from the Chapter 7 discharge who had the ability to repay under Chapter 13 (or outside the bankruptcy court), in the long run most consumers will be better off. Under the old system, consumers who always paid their debts covered the payments that were avoided by consumers who filed. Under the new system, borrowers from banks and finance companies will no longer have to pay a hidden premium to cover the losses incurred as a result of bankruptcy filings that were purely a product of the old system that ignored the ability to repay out of future income. Consumers shopping at retail stores offering credit should find both the prices of goods and the costs of credit lower as a result of changes in the bankruptcy statute. Competition will force credit grantors to pass along their savings from lower credit losses to consumers in the form of greater availability of credit and lower interest rates.

Another group of stakeholders deserves our attention, though not necessarily our pity. In the long run, the volume of bankruptcy filings will probably decline. In fact, if the volume does not decline, other things being equal, the reform has not worked. Thus, bankruptcy attorneys will be adversely affected by the change. It is no coincidence that the bankruptcy legal establishment strongly opposed the legislation recently passed by the House and Senate.

In summary, bankruptcy reform affects people, not institutions. It is not an issue, as portrayed in much of the news media, of those "greedy banks and finance companies" versus hapless consumers. Rather, it is an issue involving one group of consumers who have been subsidizing another. At the end of the day, there isn't anybody out here except us consumers.