Personal Bankruptcy Law and Innovation around the World

Creditors financing risky entrepreneurial firms often require founders to pledge personal assets, effectively contracting around corporate limited liability. Personal bankruptcy law (PBL), which governs individuals’ access to debt discharge following failure, therefore shapes innovation incentives. Difference-in-difference tests across 33 non-U.S. economies from 1990 to 2002 show that debtor-friendly PBL reforms significantly increase patent filings, subsequent patent citations, and new patenter débuts. These effects are concentrated among firms without large legacy patent portfolios, consistent with creditors primarily demanding personal guarantees from unestablished innovators. Critically, debtor-friendly PBL reforms reallocate innovation away from industries with low innovation potential to industries with high innovation potential, whereafter productivity growth spikes. These findings suggest debtor-friendly PBL reforms improve the cross-industry allocative efficiency of innovation, perhaps by encouraging disruptive entrants.