The calibrated model indicates that the 2005 reform reduces bankruptcies, as seen in the data, and improves welfare, as lower default premia allows better consumption smoothing. A counterfactual reform of changing income garnishment rate is also investigated. Interesting contrasting welfare effects between two types of agents emerge. Agents with temptation prefer a lower garnishment rate as tighter borrowing constraint prevents them from over-borrowing, while those without prefer better consumption smoothing enabled by a higher garnishment rate.
Assessing Bankruptcy Reform in a Model with Temptation and Equilibrium Default
WP 16-21 - A life-cycle model with equilibrium default in which agents with and without temptation coexist is constructed to evaluate the 2005 bankruptcy law reform.