Consumer Bankruptcy, Mortgage Default, and Labor Supply

ABSTRACT We specify and estimate a life‐cycle model of consumption, housing demand, and labor supply in an environment where individuals can file for bankruptcy and/or default on their mortgages in the presence of house price shock, income shock, and catastrophic expenditure events. A key feature of the model is that individuals differ by education, which dictates their income process and preference. We estimate the model using data on credit reports and mortgages combined with Census data. Our model demonstrates that current bankruptcy and foreclosure laws have significant distributional impact. Specifically, Chapter 7 bankruptcy benefits low educated individuals but imposes large welfare costs on those with high education. Chapter 13 bankruptcy also benefits the low education group and affects the high education group little. Recourse laws, by contrast, are costly to low education groups, but beneficial to the high education group.