Consumer Bankruptcy, Mortgage Default and Labor Supply

We specify and estimate a life-cycle model of consumption, housing demand, and labor supply in an environment where individuals may file for bankruptcy or default on their mortgages. Uncertainty in the model is driven by house price shocks, education specific productivity shocks, and catastrophic consumption events. While bankruptcy is governed by bankruptcy laws in the U.S. as implied by Chapter 7 and Chapter 13, house foreclosure is governed by state foreclosure laws. We estimate the model using data on credit reports and mortgages combined with data from the American Community Survey. Our model highlights the role of labor supply in attempting to avoid bankruptcy. We also show that Chapter 7 bankruptcy is valued by lower educated individuals but imposes welfare costs on those with higher education. We also find that recourse laws are costly for low education groups, but the higher education group slightly prefers recourse to be present. The results are driven by the tradeoff between moral hazard and the consequences of large shocks with reduced protections.