NBER Publications by Wenli Li

This paper argues that the U.S. bankruptcy reform of 2005 played an important role in the mortgage crisis and the current recession. When debtors file for bankruptcy, credit card debt and other types of debt are discharged—thus loosening debtors’ budget constraints. Homeowners in financial distress can therefore use bankruptcy to avoid losing their homes, since filing allows them to shift funds from paying other debts to paying their mortgages. But a major reform of U.S. bankruptcy law in 2005 raised the cost of filing and reduced the amount of debt that is discharged. We argue that an unintended consequence of the reform was to cause mortgage default rates to rise. We estimate a hazard model to test whether the 2005 bankruptcy reform caused mortgage defaults to rise, using a l...

In this paper we examine the relationship between homeowners’ bankruptcy decisions and their mortgage default decisions and the relationship between homeowners’ bankruptcy decisions and lenders’ decisions to foreclose. In theory, both relationships could be either substitutes or complements. Bankruptcy and default tend to be substitutes because homeowners’ budgets are limited and, if they spend less on payments to unsecured lenders, then they have more money to pay their mortgages. But bankruptcy and default may also be complements if homeowners use bankruptcy to reduce the cost of defaulting on their mortgages. Bankruptcy and foreclosure similarly may be either substitutes or complements. In fact we show that both relationships are complementary, although homeowners reacted to the...