While I was looking into household debt recently, I ran across a striking fact. In the year ending March 2003, more Americans went bankrupt than got divorced. There were 1.6 million bankruptcies in the year, about 40 per cent of which involved couples, implying around 2.2 million people going bankrupt. There were around 1.0 million divorces, or about 2.0 million people getting divorced. This (or maybe the year before, the divorce stats are a bit fuzzy) is the first time bankruptcies have exceeded divorces, at least since the Depression. The increase in bankruptcy has been exceptionally rapid. As recently as 1985, there were only 300 000 personal bankruptcies a year.
Obviously the increase in bankruptcy is due, at least in part, to the increase in household debt arising from financial deregulation. On the other side of the coin, increased use of credit has meant that consumption inequality in the US has not grown nearly as fast as income inequality.
Rather than trying to weigh up the costs and benefits of all this, I thought it would be good to consider some of the social implications. The first is that, if this trend continues (and since debt is growing more rapidly than ever, it must do so for some time), bankruptcy must become a very common life experience. In fact, it seems reasonable to project a situation in which most people go bankrupt at some time in their lives, and a significant number go bankrupt more than once. Obviously the social stigma that is still attached to bankruptcy would have to dissipate, just as it has with divorce.
Society has survived the advent of routine divorce and no doubt it will survive the advent of routine bankruptcy. Interest margins will go up, and credit may be a bit harder to get, but there’s no reason to suppose that a situation where, say, two in every hundred adults goes bankrupt annually is financially unsustainable. Interest margins will go up, but they are already high enough to modest increases in default rates.
The big effects, if any, will be the spread of the kinds of attitudes associated with bankruptcy, whatever they are. Because bankruptcy was rare until recently, the proportion of Americans who have had first-hand experience of bankruptcy, either by going bankrupt themselves or having parents go bankrupt is still small – I’d guess no more than 5 per cent of all adults. But it must rise and do so rapidly. In the absence of huge changes in patterns of debt and credit, at least 50 million people will go bankrupt in the next twenty years, and quite possibly 100 million.
There are of course, efforts to make bankruptcy more difficult and to resist the view that bankruptcy is ‘just another financial planning tool’. The US Congress has been struggling for years with a Bankruptcy Reform Bill that would make things easier for creditors, particularly the credit card companies who are, of course, the main backers of the Bill. But the failure to pass the Bill is instructive in itself. In any case, it’s hard to see how such efforts can make permanent headway against the kinds of numbers I’ve cited above. When everyone and their brother or sister has gone bankrupt, the process must be ‘just another financial planning tool’.
Where the US leads, the rest of the world commonly follows. Certainly the growth in household indebtedness is not peculiar to the US. So will bankruptcy become a routine event for Australians?
Bankruptcy rates in Australia rose rapidly from the mid-80s to the mid-90s, but then leveled out. This was partly due to the fact that, until the recent housing boom, Australians had not joined the trend to growing indebtedness and the appreciation in house prices since then has kept most out of trouble. In addition, the Howard government introduced a process called debt agreements, which are, in effect, an alternative form of bankruptcy requiring a deal with 75 per cent of creditors (by value). Still it seems likely that bankruptcy rates will go up sharply as soon as the housing bubble bursts.