Article Taken From the BYU Law Review.

It's Time for Means-Testing

Judge Edith H. Jones⁽¹⁾

Todd J. Zywicki⁽²⁾

I.Introduction

In an era of low unemployment, steady economic growth, and general prosperity, one jarring statistic begs for explanation: the unremitting growth in consumer bankruptcy rates during the past decade.⁽³⁾ Rising from 172,000 filers in 1978,⁽⁴⁾ the last year before the Bankruptcy Code took effect, the number surpassed 1.4 million consumer filers last year, approximately 1% of American households, and the end of this trend is not in sight.⁽⁵⁾ More filings occurred during six months in 1997 than during the entire decade of the Great Depression.⁽⁶⁾ This record number of bankruptcy filings in an era of prosperity has disturbed all but the most committed bankruptcy advocates. The problem has inspired both an examination of the causes of increased filings and congressional proposals to reform the bankruptcy system.

The most contentious reform that has been suggested to rein in the precipitous increase and costs of bankruptcy filings has been the imposition of means-testing for upper-income debtors. Means-testing expresses no specific proposal but embodies the concept that well-off, income-earning debtors should be required to repay what they can to their unsecured, nonpriority creditors, in exchange for the valuable benefits they receive from bankruptcy. Judging from the critics' reaction, however, an uninformed observer might be led to believe that proposals to means-test the eligibility of debtors for Chapter 7 are tantamount to reviving debtors' prisons and indentured servitude. Consider just a few of the overwrought responses of bankruptcy scholars to proposals for means-testing. "Means testing is mean-spirited," opines Professor Kenneth Klee.⁽⁷⁾ Professor Elizabeth Warren echoes this sentiment somewhat more specifically, "Those who want to say [that] the way to solve rising consumer bankruptcy is by changing the law are the same people who would have said during a malaria epidemic that the way to cut down on hospital admissions is to lock the door."⁽⁸⁾ She opines elsewhere that the answers to "the problems of more than a million families [are] not as easy as closing the doors to the bankruptcy courts."⁽⁹⁾ Other critics of means-testing have picked up the mantra.⁽¹⁰⁾

It is unfortunate that well-known academics and bankruptcy specialists have chosen to oppose means-testing viscerally. For the fact is, the House of Representatives, while repudiating the silence of the National Bankruptcy Review Commission on the subject,⁽¹¹⁾ overwhelmingly supported a means-testing bill in June 1998.⁽¹²⁾ The Senate passed a modified means-testing bill later in the summer. In the end, however, means-testing foundered in the face of a threatened White House veto. Although bankruptcy reform foundered in the 105th Congress, it has already resurfaced this year, with means-testing as its centerpiece.⁽¹³⁾ A constructive debate on means-testing, which this article hopes to assist, will aid the legislative process and the interest of society beyond the bankruptcy community.

The debate ought to begin by acknowledging that critics of means-testing have been discussing two separate issues. The first is whether means-testing is a good idea. Both practical and theoretical objections have been deployed against the pending legislation. Critics seek, however, to focus media attention not on the battle they cannot win--that well-off debtors should be required to pay something to unsecured creditors in exchange for the privilege of obtaining the automatic stay and a fresh start--but on longstanding currents of anticreditor populism. The second issue, in which critics blame lenders for inducing consumers to borrow more than they can afford, transcends specific means-testing proposals and embraces broad assumptions about the role of bankruptcy law in redistributing wealth from creditors to debtors.⁽¹⁴⁾ Criticisms of means-testing mask fundamental questions of social policy and demand consideration of the causes of the recent dramatic rise in personal bankruptcies. For if the increase has been spurred by reckless credit-granting policies, means-tested bankruptcy reform is more difficult to justify. Critics of means-testing are quick to assert this pejorative connection, but they have been slow to develop proof of it.

In this article we address both issues. First, we will discuss, as a nonexclusive example of means-testing, the relevant provisions of the bankruptcy reform bill passed by the House of Representatives, H.R. 3150.⁽¹⁵⁾ An accurate explanation demonstrates that this bill's means test is not only moderate and fair but also practical and administratively reasonable. We will also respond to the most common criticisms of the proposal, criticisms that apply to any bankruptcy means test.

We will then turn to the proper broader issue of the role of consumer bankruptcy in the American economy and society. Unlike, perhaps, the critics of means-testing, we believe that the dramatic escalation in consumer bankruptcies in an era of prosperity is a troubling and costly social phenomenon. In our view, the evidence now available tends to suggest that the recent rise in personal bankruptcies has been significantly influenced by a decline in the personal shame and social stigma traditionally accompanying bankruptcy, and by changes in the law and legal practice that have facilitated filing bankruptcy. On the other hand, the most prominent counter-explanation--rising consumer credit card debt--is based on faulty data and faulty arguments. Other popular explanations for increasing personal bankruptcies are both empirically unproven and ideologically selective. Critics of means-testing have not borne their burden of demonstrating systematic unfairness in credit practices or social policies that would render means-testing unfair.

II.The Truth About Means-Testing

A.The Underlying Assumptions

Debt relief should be available to victims of true hardship whose debts exceed their ability to repay. Bankruptcy is an appropriate last resort for individuals who become incapacitated or impecunious because of unforeseen illness, unemployment, or other catastrophe. In many such cases, liquidation of the debtor's nonexempt assets and a fresh start is the only realistic, humane alternative.

But bankruptcy should not merely be a means of violating promises willy-nilly. A promise to repay money is an important legal and moral obligation, neither lightly to be undertaken nor lightly cast away. Filing bankruptcy represents a decision to repudiate promises made in exchange for goods, services, and other promises. Of such promises and reciprocity is the fabric of civil society woven.⁽¹⁶⁾ Henry Sumner Maine famously wrote that the foundation of freedom in the western world was associated with the movement from "Status to Contract."⁽¹⁷⁾ What happens when contracts are routinely swept aside for any reason, let alone as a sheer matter of convenience? Children are taught from a very young age to keep their promises.⁽¹⁸⁾ What is the intangible social impact of rampant promise breaking? Although difficult to quantify, there are unquestionable negative social consequences. It is doubtful, for example, that bankruptcy academics would be sanguine about letting obligors walk away from their debts for payment of child support or alimony rather than creditors' bills. Or, hitting closer to home, it is doubtful that they would advocate a "pay what you want to" approach to law school tuition or lawyers' consulting fees, after promising to pay in full.

Means-testing is thus based on the simple proposition, generally accepted in American society, that people should pay their debts if they are able. Bankruptcy is a serious ethical and economic matter and should not be abused. The amount of bankruptcy relief afforded a debtor should be adjusted by both his ability to pay and his need. If a debtor can make full or partial repayment to his creditors from future income without unreasonable hardship, he should endeavor to do so. Further, if a debtor is able-bodied and earns an income that will allow him to live comfortably but still make payments to his creditors, the law may require some repayment as a condition of bankruptcy relief. Debtors with good jobs and regular incomes should be held to a different standard from debtors who confront real hardship or incapacity. Debtors with higher incomes should ordinarily repay more to creditors than debtors with lower incomes. These principles are applied routinely by government--higher-income earners are expected to pay more in taxes, just as needs-based relief is the hallmark of most social welfare programs. Those who disagree with bankruptcy means-testing ought to explain why the bankruptcy system is or should be so different from other institutions.⁽¹⁹⁾ Viewed from this larger perspective, means-testing is not designed as a deterrent to filing bankruptcy; it is designed to maximize social equity as well as assure some repayment in the course of discharging debts. It should be no surprise, then, that recent polls suggest strong support for means-testing among the public.⁽²⁰⁾

It is also advantageous to minimize, to the extent possible, the costs imposed by bankruptcy. Providers of goods and services who become involuntary claimants against the debtor bear the initial brunt of the decision to file. The imposition of losses on creditors by debtors who are able to repay some or all of their obligations is unfair. In some cases, such losses are financially devastating to small creditors, who have less ability to spread those losses. Tangible costs are also borne by consumers, to the extent that creditors pass on their bankruptcy risks and losses.⁽²¹⁾ The principle often forgotten by bankruptcy specialists is that bankruptcy is not a victimless event.

Bankruptcy relief should not give debtors a marked advantage over similarly situated nondebtors. Society should not broadly afford relief to well-off, able-bodied debtors when poorer people, who have not elected that remedy, struggle to keep their commitments and live within their means. As a calculating, incentive-driven remedy that can openly be taken advantage of by the opportunistic, bankruptcy dishonors poor but honest nondebtors. An ability-to-pay test minimizes this inequity.

Finally, a spate of high-profile celebrity, sports figure, and political bankruptcies, together with the disillusioning experiences of growing numbers of bankruptcy creditors has called into question the system's ability to police itself. By adjusting the amount of debt relief to the debtor's need, means-testing would increase public confidence in the bankruptcy system. Well-off debtors would not be perceived to get away with abuse, and the system would again be viewed as a refuge for the honest, needy debtor.

A means-testing proposal such as H.R. 3150 implements these commonly shared judgments by providing a rule of decision that distinguishes between those who can and cannot make payments to creditors from future income. Bankruptcy should not be merely a device to cast away promises. Sometimes it is necessary to do so, but the key is necessity. Bankruptcy should not be available as a matter of convenience.

B.H.R. 3150

H.R. 3150 directs consumer debtors away from Chapter 7 and into Chapter 13 based on a three-part test. First, the debtor's "current monthly total income," including, if applicable, household income from all sources, must be at least equal to the national median for a family of comparable size.⁽²²⁾ For a four-person family, the most recent median annual income was about $49,000.⁽²³⁾ Second, the debtor's "projected monthly net income" must exceed $50.⁽²⁴⁾ Third, the projected monthly net income must be "sufficient to repay twenty percent or more of unsecured nonpriority claims during a five-year repayment plan."⁽²⁵⁾ A debtor may avoid an automatic Chapter 13 order by asserting extraordinary circumstances in an itemized statement verified by him and his attorney.⁽²⁶⁾ If no party in interest objects to the statement within sixty days, Chapter 7 relief will be allowed.⁽²⁷⁾

By its express terms, this means-testing provision applies only to those debtors whose income exceeds the national median. Given the patently modest application of means-testing, it is bizarre, if not just disingenuous, to characterize H.R. 3150 as "mean-spirited." Even the supporters of H.R. 3150 estimate that this provision will cover fewer than 10% of the consumer bankruptcy cases filed each year.⁽²⁸⁾ Thus, it simply has no impact on the hundreds of thousands of debtors who are poor. Moreover, the reason for filing bankruptcy is irrelevant. The amount of debt a person has upon filing bankruptcy is also irrelevant. What matters is an individual's ability to repay. Those who can make some repayment to unsecured, nonpriority creditors from future income are expected to do so, but the extraordinary circumstances provision affords extra relief for those in need. The only effect of means-testing is to prohibit well-to-do debtors who can make some repayment from walking away and sticking creditors and other consumers with the bill.

Indirect confirmation of the need for means-testing is provided by Professor Elizabeth Warren, who asserts that bankruptcy is now a middle-class problem. She contends that debtors in bankruptcy "are middle-class--that's what's scary about this . . . . They are not marginal workers. They are you and me, they are our neighbors."⁽²⁹⁾ This observation is not, as Warren concludes, proof of the need for the status quo or an argument against means-testing. On the contrary, it is precisely because more middle-class and wealthy gainfully employed people are availing themselves of bankruptcy that means-testing has become important.⁽³⁰⁾ Traditionally, bankruptcy was seen as a last resort, a remedy for those truly down on their luck, not a device for income-earning, middle-class families to walk away from their promises and shift the losses from themselves to others. Means-testing requires well-off debtors, those above the national median income level, to repay what they can to their creditors.

If one accepts the general rationale of means-testing, the practical question is whether its benefits exceed its costs. While the precise impact of H.R. 3150 cannot be known until it is implemented, we are convinced that the results of this assessment will be positive. Means-testing will increase the overall amount collected for distribution to unsecured creditors. The size of this effect is uncertain, but even discounting for uncertainty in the data and methods, it appears that significant recoveries will result from directing high income debtors into Chapter 13 repayment plans. As a benchmark, consider that when a debtor elects Chapter 7, the debtor's unsecured, nonpriority creditors usually receive no distribution at all. Because few consumer debtors claim nonexempt assets,⁽³¹⁾ more than 90% of Chapter 7 cases pay no dividend to unsecured nonpriority claimants, and the average repayment rate in Chapter 7 cases is only about one to two percent.⁽³²⁾ Approximately 70% of consumer debtors file under Chapter 7.⁽³³⁾ Compared with the Chapter 7 record, the only hurdle for means-testing is whether the plans proposed under it will generate some payout larger than zero to unsecured, nonpriority creditors. Common sense, supported by several studies, suggests that means-testing will satisfy this standard.

1. Studies

One such study was conducted by Ernst & Young.⁽³⁴⁾ The study is based on an earlier version of H.R. 3150, which triggered means-testing for debtors whose income was at least 75% of the national median income, a level lower than that in the final bill. Thus, the Ernst & Young study overstates both the number of debtors potentially directed into Chapter 13 as well as the amount that may be collected. But even under the more expansive means-testing provision, the Ernst & Young study of petitions filed primarily in 1992-93 found that fewer than 15% of those filing would even be affected by means-testing.⁽³⁵⁾ The other 85% of debtors would retain full discretion to file under Chapter 7. Among the affected debtors, Ernst & Young found that nearly 40% of those filers would be able to repay all of their nonpriority debts over five years.⁽³⁶⁾ Overall, it is estimated, those subject to means-testing could repay an average of 62% of their total debts over five years.⁽³⁷⁾

Ernst & Young subsequently revisited the issue using a new database that draws from a nationwide sample of petitions.⁽³⁸⁾ This study examined 2,200 Chapter 7 petitions filed in 1997 and was drawn from all 90 bankruptcy districts in the nation. Thus, it represents the most recent and the only fully national data set studied to date.⁽³⁹⁾ It was also fully controlled to ensure a representative sample of Chapter 7 filings on a national basis.

The findings of the second Ernst & Young study replicated those of the earlier study. Applying the test of 75% of national median income of the original version of H.R. 3150, the study found that 15% of 1997 Chapter 7 filers would have been impacted by the needs-based provision of H.R. 3150 and required to file Chapter 13.⁽⁴⁰⁾ Those affected by means-testing would have had the ability to repay 64% of their unsecured nonpriority debts, which represented over $4 billion.⁽⁴¹⁾ Including secured and priority debt, those affected by means-testing could have repaid about $9 billion of total Chapter 7 debt at risk if they had filed under Chapter 13.⁽⁴²⁾ This study updates and confirms the findings of earlier studies and recognizes that some ten to fifteen percent of Chapter 7 bankruptcy filers could repay a substantial portion of their debts if they filed in Chapter 13 instead.

It is also significant that filers impacted in 1997 under H.R. 3150 had median incomes considerably above the 1996 national median income for all households.⁽⁴³⁾ In addition, filers not impacted by means-testing earned less than half of the median income of those affected.⁽⁴⁴⁾ Finally, those subject to means-testing could repay the median amount of unsecured nonpriority debt of $21,679, whereas the comparable figure for all Chapter 7 filers was zero.⁽⁴⁵⁾ In sum, the idea that means-testing will adversely affect poor bankruptcy filers is a myth.

A study by John M. Barron and Michael E. Staten of the Credit Research Center at the Georgetown School of Business achieved comparable results based on debtors' petitions and schedules.⁽⁴⁶⁾ While this study did not select debtors according to minimum income criteria, its findings are supportive of means-testing. They found that 5% of those filing Chapter 7 could have repaid 100% of their debt in five years. Approximately 25% of Chapter 7 debtors had income sufficient to repay at least 30% of their nonhousing debt over five years while keeping up mortgage or rental payments on their homes. Ten percent of Chapter 7 debtors declared income sufficient to repay at least 78% of their nonhousing debt over five years.⁽⁴⁷⁾

The WEFA Group also conducted a study using the earlier statutory baseline of 75% of national median income.⁽⁴⁸⁾ WEFA estimated means-testing would reduce, by eight to seventeen percent, the losses annually caused by bankruptcy filings, thus saving somewhere from $3.6 to $7.4 billion per year.⁽⁴⁹⁾

The findings of the most recent Ernst & Young study suggest that, if anything, the WEFA study underestimates the total amount of Chapter 7 debt in the bankruptcy system and, consequently, the financial costs of the personal bankruptcy system.⁽⁵⁰⁾

The findings of these credit-industry sponsored studies have been largely confirmed in a recent study by Professors Marianne B. Culhane and Michaela M. White of Creighton University School of Law.⁽⁵¹⁾ Although their sample is smaller in size, less recent, and from fewer districts than the studies discussed above, the Culhane and White study also shows that a substantial number of consumer bankruptcy filers could repay all or a substantial portion of their unsecured nonpriority debts in Chapter 13, and that means-testing provides an effective mechanism for identifying those individuals. Culhane and White studied 150 cases from 7 districts for a total of 1,050 cases, all taken from 1995 files.⁽⁵²⁾ Twenty-one percent of Chapter 7 filers in their sample were above the national median income, adjusted for family size, suggesting that 79% of filers would not even be affected by means-testing. Indeed, the median gross income of the potentially means-tested group was 22% higher than the national median income for all families, suggesting that many bankruptcy filers today are relatively well-off. Even under the researchers' restrictive assumptions, approximately one-fifth of those above-median filers had more than $50 in net monthly income available for a plan as required by the second element of H.R. 3150, and most of them could also repay 20% or more of their unsecured nonpriority debts, as required by the third element of H.R. 3150. In sum, Culhane and White find that approximately 35,000 of last year's one million Chapter 7 bankruptcy filers, could have repaid a substantial portion of their debts had they elected Chapter 13. Those who would be covered by means-testing were able, on average, to repay 70% of their unsecured nonpriority debts. Thus, even under the assumptions made by Professors Culhane and White, many high-income bankruptcy filers would be affected by means-testing, and those individuals could repay a substantial amount of their nonpriority unsecured debts in Chapter 13.

But Culhane and White's study rests on some questionable assumptions that tend to underestimate the number of bankruptcy filers that would be affected by means-testing. In particular, Culhane and White make two dubious assumptions in running their tests. First, they include a "motor vehicle ownership allowance" in the debtor's budget, in effect expecting the debtor to spend up to $20,100 to buy a new car during the term of her plan. They criticize Ernst & Young's "unduly restrictive" assumption that a debtor should only be permitted to pay off the amount owed on her existing car, rather than to provide enough money to buy or lease a new car while in bankruptcy.⁽⁵³⁾ But what justification can be offered for inviting debtors to buy new cars while they are in bankruptcy?

Culhane and White's assumption appears to be based on a misunderstanding of the authority of debtors to incur new automobile ownership debts under the terms of the proposed means-testing legislation and applicable IRS policies. The proposed means-testing provisions permit an allowance for a debtor to pay off his preexisting automobile ownership debts, but they do not permit the debtor to incur new debt or to increase his car ownership allowance.⁽⁵⁴⁾ IRS policies similarly (and unsurpris-ingly) provide an allowance for payment of existing automobile debt but do not make allowance for the debtor to incur new automobile debt.⁽⁵⁵⁾ The statutory language of the actual means-testing proposals and the applicable IRS policies are consistent with the requirements of common sense--a debtor is permitted to pay off his secured debt on an automobile if he has one but not to incur new debt to buy a new car. A revision of the peculiar and incorrect assumption that a debtor would be permitted to buy a $20,000 new car in bankruptcy raises the number of debtors who qualify for means-testing to over 6% of the sample, a number that is quite similar to the findings of the more extensive studies discussed above.

Culhane and White make a second questionable adjustment in deducting from the debtor's ability to pay a trustee's fee of 5.6%. This assumption appears in two places and each time it reduces the number of debtors who will qualify for means-testing. First, it reduces the debtor's projected net monthly income for purposes of determining whether the debtor can pay at least $50 per month into her plan. Second, it artificially diminishes the debtor's calculated ability to repay 20% of her unsecured nonpriority debts.

But it is untenable to consider trustees' fees in this manner. Means-testing is concerned with the debtor's ability to pay $50 per month into a plan and to repay 20% of her unsecured debts, not with whether the creditors will actually receive those amounts. Trustees' fees are irrelevant to the debtor's ability to pay--although they are relevant to the creditors' ability to collect. The fees reflect the amount that creditors are willing to pay in order to collect a part of the debt owed to them. After these expenses are deleted from the debtor's budget, and the debtor's motor vehicle ownership allowance is eliminated, approximately 7% of debtors qualify for means-testing.⁽⁵⁶⁾

Although their sample is not as extensive or recent as some prior studies, Culhane and White's study is still valuable as it tends to confirm the results of these prior studies. Their results are even more similar once their study is adjusted for its unrealistic and erroneous assumptions. In short, there are many high-income Chapter 7 debtors who could repay a substantial portion of their unsecured nonpriority debts if they were forced to elect Chapter 13.

While there is room for dispute as to how large an impact means-testing will have, it is silly to argue that it will have no impact or to discount the veracity of these studies only because they were funded by the credit industry.⁽⁵⁷⁾ If there really were no benefit to unsecured creditors from channeling more debtors into Chapter 13 payment plans, the credit industry would not be advocating means-testing.⁽⁵⁸⁾ Surrealistically, however, law professors are lecturing the credit industry on the best way for creditors to collect on their outstanding loans.⁽⁵⁹⁾

Independent of cost-benefit analysis, means-testing would send an important moral signal to bankruptcy debtors that if they have the ability to repay a substantial portion of their debt, they should be required to do so. Thus, to the extent that there are doubts about the administrative savings that would result from a bright-line statutory means-testing requirement or about the number of individuals who would qualify under means-testing, this moral message must also be put on the scale in favor of means-testing. While different individuals will weigh this variable differently, it is unquestionably relevant to the means-testing debate and should be kept in mind in weighing the costs and benefits of means-testing.

2. Attacks

Attacks on these studies have been vociferous and well-publicized, particularly when they purport to damn the studies' integrity solely because the research was funded by the credit card industry.⁽⁶⁰⁾ Similarly, they routinely refer to means-testing proposals as "the credit industry's means test" in order to tar those proposals with antibank populism.⁽⁶¹⁾ Guilt by association is an old rhetorical tool, and one that critics have used to great effect. Beyond scoring rhetorical points, however, it is unclear what the purpose is of dwelling on the fact that these studies were funded by the credit card industry. Are the critics claiming that the data are fabricated or falsely reported? Or do they merely disagree with the conclusions drawn from the raw data? Assuming that the data are accurate, the conclusions are the result of simple, easily reproducible, calculations. If so, then the fact that the credit card industry funded the research is a non sequitur, repeatedly invoked only to obscure the actual results of the studies.

Moreover, many of the criticisms of the ability-to-pay studies suffer from methodological flaws of their own. For instance, Elizabeth Warren has repeatedly referred to a review of these ability-to-pay studies, conducted by Kim J. Kowaleski of the Congressional Budget Office, as if it were a report by the CBO. In reality, every Kowaleski report identified by Professor Warren contains a footnoted caveat: "The analysis and conclusions presented in this memo are those of the author and do not necessarily represent the position of the Congressional Budget Office."⁽⁶²⁾ Nevertheless, Warren, the reporter for the National Bankruptcy Review Commission and the author of its report on consumer bankruptcy, repeatedly describes Kowaleski's work as an official CBO critique. When the sponsor of Dr. Staten's report called this serious error to the attention of the Chairman of the National Bankruptcy Review Commission, he was ignored.⁽⁶³⁾ Later, in a law review article, Warren continued to refer to Kowaleski's report as a "CBO report," "CBO analysis," or "CBO review."⁽⁶⁴⁾ She and other means-testing critics convey a misleading impression to the public even as they complain that the creditor-supported studies have received undue attention.⁽⁶⁵⁾ In the end, the strongest inference that can legitimately be drawn from Kowaleski's critique is that he personally disagrees with some of the findings of the WEFA, CRC, and Ernst & Young reports.

Reliance on a report by the Government Accounting Office is also questionable. While Professor Warren characterizes the GAO's report as having discredited the earlier studies,⁽⁶⁶⁾ her conclusion differs substantially from that of the GAO itself, which stated that the CRC and Ernst & Young reports "[b]oth . . . represent a useful first step in addressing a major public policy issue--whether some proportion of those debtors who file for personal bankruptcy under chapter 7 of the bankruptcy code have sufficient income, after expenses, to pay a 'substantial' portion of their outstanding debts."⁽⁶⁷⁾ She also omits the following passage from the GAO Report: "[T]he actual number of chapter 7 debtors who could repay at least a portion of their nonhousing debt could be more or less than the estimates in these two studies. Similarly, the amount of debt these debtors could potentially repay could also be more or less than the reports estimated."⁽⁶⁸⁾ Thus, according to the GAO, the studies may underestimate the total number of filers who could repay a substantial amount of their debt. Given that the authors of those reports deliberately made conservative estimates of repayment ability, it is more likely that they understate rather than overstate their results. Not only that, but GAO's reason for suggesting that the findings of repayment ability in the CRC and Ernst & Young reports are overstated is implausible on its face.⁽⁶⁹⁾ Even if the GAO's report may cast some doubt on the ultimate conclusions of the CRC and Ernst & Young reports, it is not clear that this redounds to the critics' benefit.

On a substantive level, Warren and others have taken issue with the sample size and distribution used by the CRC and Ernst & Young studies,⁽⁷⁰⁾ alleging that their data bases are too small to support generalized inferences about debtors' ability to repay. Yet the CRC and Ernst & Young studies together include more petitions over a broader geographical scope than Warren's recent research. Ernst & Young studied 5,722 Chapter 7 petitions in four bankruptcy courts, mainly during 1992-93.⁽⁷¹⁾ CRC studied 2,441 Chapter 7 and 1,357 Chapter 13 petitions, selecting at random approximately 300 petitions in each of thirteen cities primarily from May to July 1996.⁽⁷²⁾ Moreover, Culhane and White used the same methodology as Ernst & Young's study, thereby suggesting that their methodology was appropriate.⁽⁷³⁾ The follow-up Ernst & Young study examined twice as many petitions (2,200) drawn from all 90 bankruptcy courts, all filed during 1997, the most recent year for which data was available.⁽⁷⁴⁾ As the Ernst & Young and CRC studies ask the correct questions, forthrightly acknowledge their assumptions, and link their conclusions to the relevant data, they offer useful, even if not definitive, information.

It is strange that Warren utterly discounts the means-testing studies while defending her own research as simply better than "cursing the darkness."⁽⁷⁵⁾ Evidently she holds CRC and Ernst & Young to one set of empirical standards and herself to something different. Warren's thesis is that debtors today are on average poorer than they were in past years. Her recent data are drawn from 1,000 petitions filed in seven judicial districts in 1995 and 150 cases filed in one district in 1997. Her article admits its limited sample size, random time periods, and other limitations.⁽⁷⁶⁾ It also appears that she made no effort to adjust the relevant figures or otherwise attempt to ensure that they were nationally representative. Notwithstanding the paucity of her sample and the failure even to attempt to scientifically cabin the time periods under review, Warren asserts that "the suggestion of a trend is strong."⁽⁷⁷⁾ If the "suggestion of a trend" is so strong in Warren's limited research, why is it less so for studies that included thousands more petitions in more geographic areas with appropriate weighting to ensure national representativeness than Warren explored? Whether the studies were done by creditor-funded academics and accounting firms or by ideologically motivated academics is ultimately irrelevant or mutually canceling. Standards of proper scientific data collection and analysis are independent of the sincerity or motives of individual authors.

Judged by such objective standards, Warren's study compares poorly to those she criticizes. Her data limitations are far more problematic than those of CRC and Ernst & Young. More significant, her conclusion--that the average income of bankrupt debtors is quite low--is ultimately irrelevant to means-testing.⁽⁷⁸⁾ As the GAO noted, the relevant question is whether "some proportion" of individual Chapter 7 debtors have sufficient income, after expenses, to pay a "substantial" portion of their debts.⁽⁷⁹⁾ Warren, however, only investigates the circumstances of the average debtor. Attempting to evaluate a program to means-test bankruptcy relief for high-income debtors based on the characteristics of average debtors is illogical. While Warren's sample provides modest insight into the financial condition of some people who file bankruptcy, it is virtually useless for analyzing means-testing of high-income debtors. The light shed by this candle certainly is dim!⁽⁸⁰⁾

The nub of the problem in Warren's research is its flawed hypothesis. She contends that "[i]f the sharp rise in consumer bankruptcies is attributable to a sharp increase in debtor abuse, then the basic financial profiles of the filers ought to change over time: the addition of more affluent debtors should increase both the mean and the median incomes or lower the relative size of the debts, demonstrating their relatively better ability to repay debts."⁽⁸¹⁾ This implies that means-testing can only be justified if there are enough bankruptcies of higher income-earning debtors to skew the income average upward over time. Such evidence could support means-testing, but it is hardly a necessary and sufficient condition. Bankruptcies have increased tremendously during five years of allegedly unprecedented national employment and prosperity.⁽⁸²⁾ The growing numbers of debtors who are of "average" status even by Warren's standards could swamp the statistical impact of the ten to fifiteen percent of filers who would qualify for means-testing under H.R. 3150.⁽⁸³⁾ And because Warren's research essentially ends in 1995, it fails to capture most of the dramatic increase of filings between 1993 and 1997, in which there is most ground for suspicion that well-off debtors became more common.

Finally, the suggestion that if the average debt load had decreased, this would signal that debtors were filing who had an ability to repay their debt--and its unstated corollary that an increase in average debts means "poorer" debtors are filing--makes no sense. Gamblers often run up high debts relative to their ability to repay, yet few would describe them as poor but honest debtors. Likewise, higher-income earners may be tempted to gamble on overly optimistic forecasts of their own financial well-being and incur extraordinary mortgage, auto loan, and consumption debts before fate takes a bad turn. Nevertheless, because the high earners still have more funds at their disposal than most Americans, it does not seem unreasonable to ask them to repay some of the victims of their profligacy. This last aspect of Warren's investigation has nothing to do with the ability to repay and the policies that may be warranted toward higher-income debtors.

Even assuming that Warren's averages are accurate and that many debtors are poor, or--counter-intuitively--even poorer than they were during the farm crisis of the 1980s, or the brief but hard recessions of the early 1980s and 1990s, why such facts would administer the coup de grace to means-testing is unclear. The status of average debtors says nothing about the ability of high-income debtors to repay some of their debts. Turning the point around, a means test with an income threshold like that of H.R. 3150 will not affect poor debtors at all. The empirical argument against means-testing, if it exists, must ultimately have a firmer foundation than the one Warren has advanced in order to be persuasive.

Although the exact amount of benefit is uncertain, it is clear that unsecured creditors and nonbankrupt consumers will benefit from means-testing of debtors, as means-testing will increase the amounts collected in bankruptcy and may lead to fewer bankruptcy filings overall. As the subsidy to bankrupts declines, consumers who pay their bills and do not file bankruptcy will benefit from lower costs of goods and services and credit. Means-testing will also increase uniformity in the application of the law, as it will for the first time create a national rule for the availability of consumer bankruptcy relief and the content of Chapter 13 plans. At least as to well-off debtors, gone will be the days when the parties could be treated vastly differently by courts next door to each other, to say nothing of those in different districts or circuits. Both the Constitution and economic sense mandate a uniform bankruptcy law; means-testing progresses far toward that goal.

Critics of means-testing not only discount its benefits but raise various objections to its practicability and fairness. On analysis, however, it is evident that complaints that means-testing will inflict mortal costs on the bankruptcy system are overstated. The primary objection to means-testing is that it would needlessly increase the administrative costs of the bankruptcy system by making it more complicated.⁽⁸⁴⁾ This concern is misplaced.

Under the current system, a form of means-testing occurs, but in a very uncertain and ad hoc manner. Section 707(b) provides no criteria for the definition of "substantial abuse," and caselaw has provided little guidance.⁽⁸⁵⁾ As a result, there is a wide variation in "local cultures" as to what constitutes "substantial abuse."⁽⁸⁶⁾ To the extent that any consistency can be teased out of the cases, they agree that the primary factor in determining whether "substantial abuse" exists is the debtor's ability to pay.⁽⁸⁷⁾ But there is vast disagreement and inconsistency as to "how much" a debtor must be able to pay before the "substantial abuse" provision is triggered.⁽⁸⁸⁾ The legal standard of "how much" varies from case to case and court to court.⁽⁸⁹⁾ Whether a particular debtor is eligible for Chapter 7 is potentially litigable in many cases with highly unpredictable results. Needless to say, the actual administrative costs of this fact-intensive, ruleless inquiry are not trivial; the hidden social costs of non-uniformity and the perceptions of abuse and unfairness it spawns are also considerable.

By statutorily quantifying ability-to-pay as a demarcation for Chapter 7 eligibility, Congress will enhance uniformity, certainty, and consistency of the law and, by definition, will reduce administrative costs associated by the present confusing condition of § 707(b). The critics of means-testing nevertheless complain that, because of this change, the courts and clerks' offices will be forced into making case-by-case evaluations of Chapter 7 eligibility in large numbers of cases, and trustees' burdens will increase. Such criticisms, however, are contradicted by a proper analysis of the proposal.

C.H.R. 3150 Support

Under the three-part test described in H.R. 3150, a debtor's income and cost of living is compared to objective standards and data that have been in existence for years and are routinely updated by relevant government agencies.⁽⁹⁰⁾ Thus, the eligibility prong that depends on the debtor's being in the top half of national median income, adjusted for family size, relies on Census Bureau figures for the benchmark.⁽⁹¹⁾ The second criterion measures monthly income after deducting (a) the debtor's actual payments to secured and unsecured priority creditors; (b) the ordinary and necessary living expenses; and (c) the debtor's expenses for customary charitable contributions and actual medical/dental costs in order to determine whether at least $50 remains available for payment on unsecured, nonpriority claims.⁽⁹²⁾ The $50 minimum will be calculated, however, not based on the by-guess-and-by-golly "disposable income" test maintained in current law, but based on objective national standards for allowable living expenses published by the Internal Revenue Service.⁽⁹³⁾ The third criterion, ability to repay at least 20% of unsecured,⁽⁹⁴⁾ nonpriority debt in a five-year plan, is a simple division exercise.

H.R. 3150 contemplates that even if its standards were difficult to ascertain, which they are not, the principal enforcement responsibility lies with the debtor and his attorney. It is the debtor's attorney who will perform the screening function in the course of preparing the debtor's schedules. The schedules will be a modified version of the current Schedules I and J and will not pose an insuperable challenge to debt counselors. Obviously, most debtors whose income is well below relevant national median levels will not require means-test scrutiny. For those relatively few whose status is dubious, however, a model personal computer program has already been developed by Carl Felsenfeld and William J. Perlstein to conform to the requirements of H.R. 3150.⁽⁹⁵⁾ Using this or similar software, the attorney or paralegal can, within a few minutes, insert the information pertinent to an individual debtor, and the program will calculate eligibility for Chapter 7. Information technology can likewise be applied by the panel trustees and the courts to simplify the examination of cases that present close questions of means-testing.

In light of the amenability of these tests to standard information processing techniques, it is inaccurate to contend that means-testing will impose case-by-case oversight responsibility on courts. The vast majority of cases will be uncontested and inarguable under the standards. One may quarrel with the normative content of the standards, although as we have noted, the arguments are overwhelming for H.R. 3150's modest means-testing. But disagreement over the substance of the standards should not be confused with their administrative feasibility.

There is also a deeper confusion underlying the general criticism that means-testing will overwhelm courts with individual case decisions. Under Chapter 13 today, comprising about one-third of all bankruptcy filings, the standard for repayment plans is the justly-criticized disposable income test. That test already presupposes individual case determinations concerning debtors' ability to repay. Judges decry the disposable income test in part because they abhor making "judgmental" lifestyle decisions, such as whether to permit private school tuition. Paradoxically, those who criticize the complexity of H.R. 3150 give it no credit for simplifying cases by providing congressional answers to most of the lifestyle problems that plague the disposable income test. H.R. 3150 furnishes objective guidelines for ability-to-pay and, in so doing, erects guideposts that will be readily applicable to the debtors' repayment plans.

Others criticize H.R. 3150 for removing the flexibility that the law now allegedly affords to tailor Chapter 13 to the needs of individual cases.⁽⁹⁶⁾ At the same time, however, it is well known that most Chapter 13 confirmations are routine, uncontested, and based solely on the Chapter 13 trustee's recommendation. Chapter 13 confirmations have, in short, become standardized according to the criteria for disposable income adopted by each court. The "tailoring," to the extent it exists, depends not so much on the individual debtor's predicament as upon the happenstance of the trustee and court he has drawn. A modification in Chapter 13 practice that substitutes national standards (incorporating regional income variations) for the current balkanized regime is far more uniform and equitable than the status quo.

More sophisticated critics of H.R. 3150 go beyond the blunderbuss assertion of its complexity to focus on the IRS standards, contending that they are unduly variable, and on litigation that may be imagined to test the "extraordinary circumstances" exception to the means test.⁽⁹⁷⁾ Several responses to this critique are in order. First, ambiguity in applying the standards will only arise in a limited number of cases. It stands to reason that ambiguity will not be outcome determinative in many of those cases simply because of the large number of variables in the ability-to-pay equation and will thus rarely furnish grounds for litigation. Second, concerns about ambiguity involve short-term costs, not systemic increases in the difficulty and expense of bankruptcy administration, as significant ambiguities will eventually be resolved by authoritative case law. Third, the concept of "extraordinary circumstances" is not meant as a catch-all for expenses the high-income debtor cannot shoehorn into the IRS standards. Where compelling circumstances exist, such as medical needs of a family member, there is no need for individual case determinations. Only where a debtor tries to manipulate the definition of "extraordinary," an effort that the courts should strongly discourage, will this exception generate litigation.

Some opponents of means-testing argue that excessive costs will accrue from the inevitable fraud and prebankruptcy planning done to evade mandated Chapter 13 filings.⁽⁹⁸⁾ While this view has some theoretical validity, it proves too much, for if the costs of policing fraud were a deterrent to implementing sound social policy, then virtually every government decision would be doomed, including the income tax and social health and welfare programs. Indeed, it is widely understood that debtors' bankruptcy petitions and schedules are, to put it kindly, rife with errors and unreliable. Under the critics' view, the entire current bankruptcy system should presumably be suspect.

But a means test that covers only about 10% of filers and can only be manipulated at the margin will not increase fraud to a degree sufficient to undermine the validity of the entire project. H.R. 3150 also contains provisions designed to reduce the widespread incidence of inaccuracy in bankruptcy petitions by, among other things, requiring debtors to furnish tax returns and pay stubs with their petitions⁽⁹⁹⁾ and requiring attorneys to verify claims for extraordinary expenses. The legislation also expresses the sense of Congress that Bankruptcy Rule 9011 ought to include the attorney's express responsibility for the verification of unsigned documents, like the debtor's schedules, filed at the bankruptcy court.⁽¹⁰⁰⁾ The possibility of fraud, in short, is not a persuasive objection to means-testing.

The problem of prebankruptcy planning to avoid Chapter 13, while not to be dismissed, is both overstated and not ultimately compelling. It must be kept in mind that under the current regime these debtors would still be in Chapter 7. Thus, bankruptcy planning would put them exactly where they are today. Means-testing might be rendered irrelevant by bankruptcy planning, but it would not make matters worse. Thus, this is no argument against means-testing.

It is also argued that debtors could evade the higher-than-average income criterion of the test by not working or by deliberately accepting lower-paying work in order to obtain Chapter 7 relief.⁽¹⁰¹⁾ This they could do, although it is not clear what the debtor would really accomplish by this tactic, as the high-income debtors covered by means-testing would have to accept a dramatic decrease in income for this strategy to work, and thus would make themselves worse off by this strategy. Thus, few debtors are going to find this option desirable.

Another self-defeating strategy would have the debtor deliberately incurring unsecured debt while preparing for bankruptcy in order not to be able to repay "20% or more" of such debt through a Chapter 13 plan, as required by the third prong of the means-test. Again, this is not an argument against means-testing at all, because this tactic is available under the current system where the debtor elects Chapter 7. Moreover, the same objections to Chapter 7 discharge that exist today, such as the nondischargeability of fraudulently incurred debts and certain expenditures on luxury goods, would not be affected by the adoption of means-testing.

Finally, a debtor could deliberately incur secured debt, for instance by buying a new car, in order to inflate monthly expenses and have less income to satisfy the $50 test. Of course, if the debtor succeeded in this last maneuver, his collateral would remain bound to the higher secured debt in Chapter 7. So again, this strategy is implausible.

More generally, any of these devices, such as voluntary unemployment or strategically running up debts, would seem to furnish grounds for dismissal of the case for "substantial abuse" under § 707(b), in addition to complaints against discharge and dischargeability.

Perhaps more telling, the predictions of rampant prebankruptcy planning illustrate the degree of abuse and gamesmanship inherent in the current system. This inference is especially strong, given that in this case the stakes are quite low; if manipulated properly, the debtor can avail himself of Chapter 7 rather than Chapter 13. If the critics are so confident that debtors will play games with creditors and will deliberately take on obligations they cannot repay just to shelter more wealth in a Chapter 7 case and to avoid proposing a Chapter 13 plan, what does this say about more high-payoff strategies such as hiding assets from creditors? Undoubtedly, the cries for reform would not be so vehement, and the need for means-testing not so pressing, if bankruptcy were in fact the pure refuge of the poor and needy as it is portrayed by its defenders. They cannot have it both ways.

There is also no reason to believe that administrative costs will rise compared to the current system. Most consumer bankruptcies will plainly fall below the income threshold and will be unaffected by means-testing.⁽¹⁰²⁾ Further, it will be relatively easy to determine whether someone meets the criteria for a mandated Chapter 13, although in some marginal cases further inquiry may be necessary.⁽¹⁰³⁾ Means-testing identifies objective rules that will guide eligibility for and the components of Chapter 13 relief. At the same time, it retains focused discretion for a judge to excuse a debtor for hardship. As compared to the open-ended § 707(b) inquiry concerning ability to pay, there is no reason to believe that administrative costs would rise under means-testing. In short, statutory-based means-testing would substitute a bright-line rule for the current murky standard. In general, bright-line rules tend to reduce administrative costs relative to standards and increase the predictability of their application.⁽¹⁰⁴⁾ A similar result could be expected by substituting a means-testing rule for the current "substantial abuse" standard. Indeed, the issues in a case under means-testing are much fewer and more sharply focused than under the current system. Means-testing reduces uncertainty as to the legal standard to be applied, as well as the factual findings to be established.

The bright-line nature of H.R. 3150's test also makes it preferable to the Senate's version of means-testing.⁽¹⁰⁵⁾ Under the Senate's bill, means-testing would not be a prerequisite for Chapter 7 relief. Instead, the Senate bill puts the onus on creditors to bring a motion under § 707(b) to prove "abuse" before a debtor's case can be dismissed (and presumably refiled under Chapter 13).⁽¹⁰⁶⁾ Most individual creditors will lack the incentive to bring such an action, as they will have to bear all the costs of litigating, while the benefits of conversion will be shared among all creditors.⁽¹⁰⁷⁾ The standards for conversion under the Senate bill are also more open-ended, requiring a more fact-intensive inquiry on a case-by-case basis and reducing the administrative savings of a bright-line means test. Thus, while the Senate version of means-testing is preferable to the status quo, the administrative savings over the status quo will be smaller than under the House bill.⁽¹⁰⁸⁾

Moreover, because high-income debtors will have to repay greater amounts of their debts under means-testing, they may be less likely to file in the first place. For these completely opportunistic debtors, reducing the number who file bankruptcy is an end in itself.⁽¹⁰⁹⁾ Eliminating these cases from the bankruptcy system will reduce the need to expend judicial and administrative costs on them.

In a last-ditch effort at disproving the practicability of H.R. 3150, critics of means-testing argue that Chapter 13 doesn't work and that it is therefore a mistake to force more debtors into Chapter 13.⁽¹¹⁰⁾ This argument is based on a faulty premise. Professor Braucher, for instance, argues that "making chapter 13 the only option for many debtors would mean a lot more low percentage plans . . . and an even higher failure rate . . . than we already have."⁽¹¹¹⁾ Braucher assumes that means-testing would lead to more low percentage plans but overlooks the fact that means-testing applies only to debtors who can repay at least 20% of their unsecured, nonpriority debts.⁽¹¹²⁾ These debtors are likely to have high percentage plans with a low failure rate. Further, these well-off debtors will risk far more than the ordinary Chapter 13 participant by defaulting on a plan, and their income level equips them far better to complete it. As a result, data on the general failure rate of Chapter 13 debtors are not persuasive when applied to the high-income debtors who will be placed in Chapter 13 by means-testing.⁽¹¹³⁾ Again, the critics of means-testing have fallaciously lumped the situation of extraordinary debtors together with averages.

Sober analysis demonstrates that means-testing is an idea whose time has come. Indeed, the idea of means-testing is not new at all, but is conducted every day--albeit inconsistently and unpredictably--in courtrooms under § 707(b). Apocalyptic rhetoric to the contrary, the reality of means-testing is that it will apply only to bankruptcy filers with above median incomes, sufficient disposable income to fund a plan, the ability to repay a substantial portion of their unsecured debt, and no other overriding hardship. Rather than confronting the merits of the actual means-testing proposals that have been advanced, opponents have chosen to misrepresent means-testing, implying that it would negatively affect all debtors, even those who are worst off. Professional studies demonstrate that at least some debtors could pay significantly more of their outstanding debt by proceeding in Chapter 13 rather than in Chapter 7.⁽¹¹⁴⁾ Critics of these studies have created a great deal of smoke by questioning the motives and techniques of the studies' authors, but these critiques do not rebut the central conclusions. Given that means-testing would create at most a limited increase in the administrative costs associated with bankruptcy, the benefits of means-testing clearly exceed the costs.

III.Means-Testing and the Causes of Bankruptcy

A.Introduction

As we have argued, means-testing is warranted on generally accepted principles of fairness. Those who can pay all or some significant portion of their debts should be required to do so. Means-testing is not intended to be punitive; it is a modest tax on the privilege of escaping one's obligations. Thus, the case for means-testing is compelling on its narrow merits.

More general trends in bankruptcy filings lend urgency to the need for means-testing. In particular, we contend in this Part that increased bankruptcy filings have been fueled by an increase in the net economic benefits of filing and by a decline in the level of personal shame and societal stigma that previously deterred individuals from filing bankruptcy. Bankruptcy is now too frequently a choice fostered by irresponsible spending habits and an unwillingness to live up to commitments. In some ways, means-testing can be understood as a necessary substitute for these traditional restraints.

Our view is opposed by those who advocate bankruptcy's status quo. Bankruptcy advocates believe that debtors are overwhelmingly honest, down-on-their-luck individuals buffeted by forces beyond their control. One such force is that of excessive credit card debt, foisted upon consumers by underhanded and hugely profitable credit card issuers. Other forces include divorce, job loss, uninsured medical bills, and traumatic experiences, all of which are assumed to be beyond the debtor's control. Advocates of the status quo view the recent explosion in bankruptcy filings as indicative of economic conditions that reward the ruthless pursuit of profit by banks and other creditors and political decisions that have undermined the vitality of the welfare state. In a variation of the catechism for the status quo, the authors of the majority report for the National Bankruptcy Review Commission argue that the rapid growth in the bankruptcy filing rate has been caused by increased levels of consumer debt.⁽¹¹⁵⁾ Consumer debt is proffered as independent of consumer choice, and hence consumer responsibility.

These models of the bankruptcy process as a haven for victims sound better in theory than they prove to be in fact. First, as we will show, the demonization of the credit card issuers is based on faulty analysis. Second, while in any free society with an advanced market economy, some core number of bankruptcies will be caused by involuntary events such as illness, unemployment, recessions, and fraud, these events cannot and do not explain the unprecedented growth in consumer bankruptcy filings in the era following the enactment of the 1978 Bankruptcy Code, particularly during the past decade. Third, the simplistic equation of rising debt with rising bankruptcy is in fact question-begging, as both consumer debt and the bankruptcy filing rate are endogenous variables.⁽¹¹⁶⁾ If discharge of debts is easy in bankruptcy, debtors will incur more debt. Conversely, if obtaining bankruptcy relief is difficult, debtors will be more reluctant to incur debts. Thus, both personal debt levels and bankruptcy filings must be caused by some independent variable.

B.Growth of Personal Bankruptcy Filings

In our view, the surprising growth in personal bankruptcies in recent years has been influenced by two factors: (1) changes in the law and the bankruptcy system that have increased the net economic benefit of filing bankruptcy and (2) a decline in the personal shame and social stigma traditionally attached to filing bankruptcy. These two variables are interrelated. Thus, the social stigma from filing could be included as part of the total economic "cost" of filing bankruptcy.⁽¹¹⁷⁾ Indeed, it is probable that continuing shame and stigma restrained bankruptcy filings for many years despite the purely economic benefits of filing. A decline in the stigma attached to bankruptcy filers will therefore reduce the total cost of filing bankruptcy. By the same token, making bankruptcy more economically attractive will tend to increase the number of individuals who file. As more individuals file bankruptcy, that option will tend to become more socially acceptable, thereby reducing the stigma attached to it. Increased advertising of bankruptcy services and the prevalence of celebrities filing bankruptcy reduce both the stigma of filing and the "search" costs of learning about the bankruptcy option. Despite the overlap between these variables, however, it is useful to discuss them separately.

1. Economic benefits of bankruptcy

The decision whether to file bankruptcy is in part a function of bankruptcy's relative costs and benefits. The tangible benefits of filing bankruptcy are obvious: an opportunity to discharge debts and to get a "fresh start" at the end of the process. The automatic stay stops creditors cold, allowing debtors to retain houses, cars, and other property for additional periods of time. There are intangible benefits as well, such as putting an end to "annoying" phone calls by creditors seeking to recover assets and money.⁽¹¹⁸⁾

The economic and other benefits of filing bankruptcy are reflected in the high rates of bankruptcy in the United States as compared to the rest of the world. As The Economist magazine observed, "America's personal-bankruptcy laws are strikingly kinder to distressed borrowers than those of most other developed economies."⁽¹¹⁹⁾ These differences "in part explain[] why filing rates are higher in the United States than in Canada, where legal barriers to debtor opportunism are more exacting and where fresh-start policies are weaker."⁽¹²⁰⁾

Another significant benefit of bankruptcy is that debtors may retain exempt property free of most creditors' claims. In two different studies, economist Michelle White has found that bankruptcy filing rates are, to some degree, positively related to the generosity of exemptions.⁽¹²¹⁾ In the most recent study, Hurst, Fay, and White confirm that the financial benefit of filing bankruptcy is strongly correlated with an increase in the number of people seeking bankruptcy protection.⁽¹²²⁾ White also shows that at least 15% of American households would benefit financially from filing bankruptcy.⁽¹²³⁾ When the ability to plan strategically for bankruptcy is factored in, including the conversion of nonexempt to exempt assets or loading up on dischargeable unsecured debt and buying exempt assets, the number of households that would benefit from filing bankruptcy exceeds 20%.⁽¹²⁴⁾ Not surprisingly, the benefits for filing bankruptcy are largest for those with the greatest amount of income and wealth, as they can make greater use of generous exemption laws.

But there are also costs associated with pursuing bankruptcy relief. First, a debtor must learn that bankruptcy is a viable option. In economics, this concept is referred to as "search" costs.⁽¹²⁵⁾ Several changes in the American landscape suggest that the search costs of learning about the bankruptcy option are significantly lower than in previous eras. The 1980s saw a dramatic growth in attorney advertising, which has reduced the information and search costs for debtors and encouraged competition among attorneys.⁽¹²⁶⁾ Daytime and late-night television, as well as newspapers, magazines, and telephone books are now awash in bankruptcy advertisements by lawyers.⁽¹²⁷⁾ This proliferation of attorney advertising has accompanied increasing bankruptcy filing rates.⁽¹²⁸⁾ Moreover, the sheer number of consumer bankruptcies has increased public awareness that bankruptcy is an available and relatively easy process.⁽¹²⁹⁾ This is the "water cooler" effect: people learn about bankruptcy from friends and family who have filed bankruptcy and report that it was cheap, easy, and put an end to creditors' collection efforts. Indeed, a Visa study found that a considerable percentage of bankruptcy filers said that if they had known how easy the bankruptcy process was, they would have done it much sooner.⁽¹³⁰⁾ "A Gallup poll found that 51 percent of filers had a close friend or relative who filed bankruptcy."⁽¹³¹⁾ A "Visa survey found that 45 percent of filers learned about bankruptcy from friends or family."⁽¹³²⁾

The declining search cost is reinforced by the notoriety of politicians, entertainers, and other celebrities who have recently filed bankruptcy.⁽¹³³⁾ As performer Toni Braxton told a reporter after her filing in January 1998, "I'm gonna go out and enjoy myself . . . ."⁽¹³⁴⁾ Most private companies have to pay celebrities to endorse their products in advertisements; the ease with which Braxton and others have sailed through bankruptcy is equivalent to free advertising for the bankruptcy system.

In the past, a compelling disincentive to file bankruptcy lay in the unavailability of credit for those with an impaired credit rating. Bankruptcy was an almost insurmountable hurdle to re-establishing one's credit. The disincentive to bankruptcy has, however, significantly declined in recent years due to the flourishing of the "sub-prime" lending market and the willingness of some lenders to look favorably on those who have wiped the slate clean of most other obligations through bankruptcy. No doubt the prospect of paying high post-bankruptcy rates for credit remains a cost of filing, but it is markedly lower than before.

The large number of bankruptcy filings has engendered certain economies of scale which have reduced the out-of-pocket costs of filing bankruptcy. Thus, "do-it-yourself" bankruptcy books have become a staple of bookstores and even grocery store check-out lines.⁽¹³⁵⁾ Similarly, the creation of bankruptcy "mills" has reduced the costs for attorneys who represent debtors in high-volume, repetitive cases.⁽¹³⁶⁾ Using teams of paralegals and secretaries, these attorneys represent thousands of debtors per year,⁽¹³⁷⁾ theoretically, at lower cost than in previous eras.⁽¹³⁸⁾

Finally, the passage of the Bankruptcy Code in 1978 significantly reduced the costs⁽¹³⁹⁾ and increased the benefits⁽¹⁴⁰⁾ to consumers of filing bankruptcy. Thus, it is not surprising that several researchers have found that the enactment of the 1978 Code significantly increased consumer bankruptcy filing rates.⁽¹⁴¹⁾ Shepherd's study, for instance, concluded that the enactment of the 1978 Code increased individual bankruptcies by approximately 180,000 per year.⁽¹⁴²⁾

During the past twenty years, and especially during the past decade, there is reason to believe that the benefits of filing have at least remained constant and may even have risen as more people become aware of how to plan strategically for bankruptcy. In turn, the economic costs of learning about and filing for bankruptcy and obtaining post-bankruptcy credit have declined significantly. These factors have favored increased filings.

2. The decline of bankruptcy shame and stigma

Bankruptcy represents a repudiation of one's promises, a decision not to bestow a reciprocal benefit on someone who has given you something of value. As a result, filing bankruptcy traditionally has been treated as a socially shameful act. Promise-keeping and an instinct for fairness and reciprocity are deeply embedded in our natures and underlie our social structure.⁽¹⁴³⁾ It is not surprising that most people feel great personal shame from a failure to keep their promises. It is also not surprising that society punishes and stigmatizes an individual's failure to keep his promises. Personal shame and social stigma go hand-in-hand. Shame is the internal, psychological compass that forces one to keep his word; stigma is the external, social constraint that reinforces this.⁽¹⁴⁴⁾

Shame and stigma associated with filing bankruptcy unquestionably remain a potent force restraining bankruptcy opportunism. As noted above, a large percentage of the population would benefit financially from filing bankruptcy, especially with a relatively small amount of prebankruptcy planning.⁽¹⁴⁵⁾ Although a far smaller percentage actually does so,⁽¹⁴⁶⁾ the impact of "defining bankruptcy deviancy downward" has become more pronounced.

The decline in shame and stigma is reflected in the observation that during the 1950s there were two things that "'people never did: divorce and bankruptcy.'"⁽¹⁴⁷⁾ Just as divorce rates have risen since the 1950s, bankruptcy rates have risen as well.⁽¹⁴⁸⁾ Of course, changes in the law made both divorce and bankruptcy easier.⁽¹⁴⁹⁾ But another overlapping cause has been the decline in the shame and stigma associated with divorce and bankruptcy. As these choices have become more socially acceptable, rates of divorce and bankruptcy have both increased, and even multiple filings have proliferated. Six-time bankruptcy filer Fitzgerald Giscombe of Brooklyn put it well when he confessed, "It gets easier each time. . . . The psychological part of it has changed."⁽¹⁵⁰⁾

While it is difficult to measure directly how the decline of shame and stigma are associated with the rise of bankruptcy filings, it is possible to do so indirectly. Thus, a recent study by Margaret Brinig and Frank Buckley suggests that both shame and stigma are significant variables in the bankruptcy rate, and that their decline has contributed significantly to the increase in bankruptcies.⁽¹⁵¹⁾ An independent study by Fay, Hurst, and White similarly concludes that bankruptcy stigma is a highly significant variable in the decision whether to file bankruptcy⁽¹⁵²⁾ and that "social disapproval of bankruptcy has been falling over time."⁽¹⁵³⁾ Research by David B. Gross and Nicholas S. Souleles has corroborated the finding that the decline in the constraints of social stigma explains most of the increase in credit card defaults and consumer bankruptcy filings.⁽¹⁵⁴⁾

Casual empiricism reinforces the findings of these studies. For instance, nondelinquent borrowers are filing bankruptcy at increasing rates.⁽¹⁵⁵⁾ The increasing numbers of these "surprise" bankruptcies suggests that bankruptcy more and more is looked at as an option of "first," rather than "last" resort. If large numbers of debtors actually felt shame from the decision to file bankruptcy, one would expect them to at least consider trying to work out a repayment agreement before filing bankruptcy. The evidence increasingly suggests the opposite.

In some places, such as Memphis, the sense of shame has all but disappeared, leading to astonishingly high rates of personal bankruptcy.⁽¹⁵⁶⁾ In 1996, 4.3% of Memphis families filed bankruptcy, almost 1 in 23, earning Memphis the sobriquet of the "bankruptcy capital of America."⁽¹⁵⁷⁾ According to a Fortune magazine article, there is a "culture of bankruptcy" in Memphis, and bankruptcy is "a way of life."⁽¹⁵⁸⁾ As the magazine notes, "Because so many people have lived through bankruptcy, there's a strong informal support network for anyone in financial trouble. Friends and neighbors tell each other 'bankruptcy works,' says David Monypeny, Jerry Lee Lewis' [who also filed bankruptcy] manager."⁽¹⁵⁹⁾ Other indicia of an active bankruptcy culture are prominent. The article continues, "There's also plenty of professional support for bankruptcy: The Memphis Yellow Pages features more than a dozen large lawyers' ads offering to wipe out debts for no down payment; a Honda dealer (its slogan: 'The bankruptcy specialists') runs TV commercials promising to sell you a car no matter what your credit history."⁽¹⁶⁰⁾

In this postbankruptcy apocalyptic world, trust has all but disappeared in routine arms' length transactions that go unnoticed elsewhere. Consider Fortune's description of everyday financial life in Memphis: "It's almost impossible to cash checks in Memphis. Used-car dealers charge their wholesale cost as a down payment. And lenders are either tightening or giving up. First Enterprise Financial Group, for instance, an Illinois-based sub-prime lender, closed its Memphis operations in May."⁽¹⁶¹⁾ When the informal norms of shame and stigma break down, the consequences for everyday economic activity are significant.

As depicted by the experience of celebrities, who live as well after bankruptcy as before they filed, bankruptcy is increasingly seen as a big "game," with the losers being those who live within their means, while the bankrupts pursue more interesting and carefree lives. Examples abound. Compare the situations of a brother and a sister in a family we know who both got married and had similar family incomes. The brother lived in a modest house, took modest vacations, sent his children to public schools and then public universities, because that was all they could afford. At the same time, the sister bought a large house in a wealthy northeastern suburb, took extravagant vacations, sent her children to private high schools and college, financing everything through heavy borrowing. Toward the end of this process the sister filed bankruptcy and walked away from it all. For her, borrowing was simply a way to live a lifestyle that she really could not afford. Bankruptcy provided a painless way to maintain that lifestyle. Needless to say, the brother wonders whether he did the right thing by living within his means and depriving himself and his family of the benefits captured by his sister.

Professor LoPucki colorfully sums up the problem:

Consumer bankruptcy contradicts the morality of Aesop's fable [of the grasshopper and the ant]. Today's ants eat beans at home, don't buy the kids new sneakers, and don't try to buy the new house until they have stable jobs and down payments. They hang onto the jobs, even when the going gets tough, particularly if the jobs come with health insurance. The grasshoppers eat at the pizza parlor on Friday night and buy the new sneakers and the houses. They quit their jobs when the going gets tough. The fallout lands on their credit cards. When winter comes, they discharge the credit card debt in bankruptcy. The ant played by the rules, the grasshopper didn't. In the end, consumer bankruptcy made them equals.⁽¹⁶²⁾

Is there any wonder that the next time around the ant (or the ant's children) will choose to follow the path of the grasshopper?

Of course, some of this reduction in shame and stigma was an intentional result of the changes enacted in the 1978 Code. As the dissent from the NBRC Report observed, "[t]he Code, for instance, replaced the term 'bankrupt' with 'debtor' and described a case filing as seeking an 'order for relief.'"⁽¹⁶³⁾ The nondiscrimination provisions of § 525 were also substantially expanded to prohibit many forms of private discrimination against bankruptcy debtors. Given that one goal of the Code reforms was to reduce shame and stigma, it should not be surprising that it in fact has done so.

Shame and stigma have traditionally counterbalanced the economic benefits available from bankruptcy, restraining many debtors from filing.⁽¹⁶⁴⁾ As shame and stigma have declined, however, more and more debtors are recognizing the economic benefits of bankruptcy. This decline in shame and stigma is felt most powerfully with respect to middle-class and upper-income debtors. Just as the economic benefits of filing bankruptcy are greatest for upper-income debtors,⁽¹⁶⁵⁾ a corollary is that the restraints imposed by shame and stigma have also been most important with respect to this category of individuals. As shame and stigma decline, therefore, the marginal impact will be felt most heavily with respect to upper-income debtors.⁽¹⁶⁶⁾ As there is little reason to believe that the decline in shame and stigma will reverse in the immediate future, we can expect to see increasing numbers of higher-income debtors. This in turn indicates that means-testing will become increasingly important to require these debtors to repay their debts.⁽¹⁶⁷⁾

History is replete with the tales of honest and noble individuals like Sir Walter Scott and Mark Twain who worked for years to repay their debts, even those that had been legally discharged.⁽¹⁶⁸⁾ Part of Harry Truman's lore and reputation as an honest and principled man was his refusal to file bankruptcy in the face of losses incurred during the 1921 recession that rocked the agricultural Midwest. Rather than file bankruptcy, Truman vowed to pay off his debts. "Fifteen years after the store went under, Harry would still be paying off on the haberdashery, and as a consequence would be strapped for money for twenty years."⁽¹⁶⁹⁾ But he did it, even after his partner filed bankruptcy himself.

In the current social climate, it is easy to suspect that individuals like Scott, Twain, and Truman would be considered not as honest and noble heroes but as saps. As Allan Bloom remarked,

There is a perennial and unobtrusive view that morality consists in such things as telling the truth, paying one's debts, respecting one's parents and doing no voluntary harm to anyone. Those are all things easy to say and hard to do; they do not attract much attention, and win little honor in the world. . . . [It] is a humble notion, accessible to every child, but its fulfillment is the activity of a lifetime of performing the simple duties prescribed by it. This morality always requires sacrifice.⁽¹⁷⁰⁾

Rather than extolling this sacrifice and struggle to live within one's means, too many social factors today encourage the opposite.

IV.Alternative Theories Explaining the Increase in Bankruptcies

Advocates of bankruptcy's status quo passionately deny that filings have increased even in part because of economic cost-benefit calculations or reduced shame and stigma. The denials ring somewhat hollow, as it is these same advocates who have labored to enhance the respectability and reduce the costs of filing bankruptcy. Instead, the proponents of the status quo blame the bankruptcy boom on high personal debt levels and on events such as divorce and the cost of catastrophic medical care. In their eyes, bankruptcy filers are buffeted by economic and social forces beyond their control. And, even if some debtors are abusing the system, their implicit attitude is "so what?" as the costs of abuse are shouldered by wealthy banks and other creditors.

This vision of bankruptcy and bankrupts is freighted with implications for bankruptcy policy. For instance, the National Bankruptcy Review Commission, mesmerized by this diagnosis, declined to recommend any significant reforms to curb bankruptcy abuse, even among upper-income debtors.⁽¹⁷¹⁾ Nor did it take any steps to reduce the economic losses imposed on creditors and other consumers as a result of bankruptcy. Despite its acceptance by a bare majority of the Commission, this view rests on little more than shallow empiricism, isolated anecdotes, and an ideological belief that refuses to admit that any significant number of bankruptcy debtors "game" the system by discharging debts that they have some capacity to repay.

The advocates of the status quo are forced to provide some explanation for the bankruptcy boom. They advance three explanations. First, high levels of personal debt relative to income "cause" increased bankruptcy filings. Second, excessive levels of personal debt are strongly influenced by aggressive and even misleading marketing of credit cards to vulnerable borrowers. Third, the other principal causes of consumer bankruptcy are forces beyond the control of individual debtors. On further examination, however, none of these explanations is persuasive.

A.Debt and Bankruptcy

For many scholars and commentators, bankruptcy is caused by excessive levels of debt, piled (apparently involuntarily) upon the backs of American families.⁽¹⁷²⁾ Elizabeth Warren, for instance, analogizes Americans' taking on consumer debt to hikers' filling up their backpacks with rocks:

Through life, the hike is sometimes uphill and sometimes downhill, and the path is sometimes strewn with obstacles. As they hike, the adults may acquire debt, which is much like putting rocks in their backpacks. If the packs have only a few rocks, the family can withstand most of the events and calamities they are likely to encounter. But as the pack grows heavier, smaller and smaller misfortunes will cause the hikers to fall, unable to continue the hike. The only way they can get back on their feet is by emptying some of the rocks from their packs. More Americans' packs are getting heavier with debts, and more of them find that they can continue only if they unload some of their rocks by declaring bankruptcy.⁽¹⁷³⁾

The thesis that excessive debt "causes" bankruptcy is flawed in many ways. A correlation between debt and bankruptcy does not equate to causation, especially when the purported causal link is spurious. Taking a historical perspective, bankruptcy filings in the first half of 1997 exceeded those for the entire decade of the Great Depression, but no one would seriously contend that consumer debt levels were more onerous on 1990s debtors than the burdens borne by their grandparents' generation. Indeed, consumer bankruptcy rates are 49.9% higher now than during the height of the last recession.⁽¹⁷⁴⁾ As one commentator observed, even if debt-to-income ratios have worsened, they have done so gradually: "They did not get worse by 29% in 1996 over 1995, but bankruptcies did. They did not worsen again by 20% in 1997 over 1996, but bankruptcies did."⁽¹⁷⁵⁾

More fundamentally, there is a logical flaw in the purported causal link between debt and bankruptcy. Even though debt levels relative to income are high, interest rates are also much lower than they have been in many years. Accounting for interest rates, consumers' current debt burden, or service payments on debt, is lower than it often was in the past.⁽¹⁷⁶⁾ If debt is relevant to bankruptcy, it is because debt makes it impossible for individuals to make debt payments as they come due.⁽¹⁷⁷⁾ Current indebtedness measures this, not total debt or debt-to-income ratios.⁽¹⁷⁸⁾ While the total debt level may be correlated with bankruptcy filings, it is not clear how total debt, as opposed to current debt levels, could "cause" bankruptcy filings.⁽¹⁷⁹⁾

The idea that debt "causes" bankruptcy is flawed in another way. Consider Professor Warren's analogy of consumers as hikers picking up "debt" stones as they walk. In Warren's view, debt is something that just accumulates on its own over time, as though creditors secretly slip additional rocks in the unsuspecting hiker's backpack. One is reminded of the old Charlie Brown Halloween special where all of the other kids in the neighborhood receive a bag full of candy while trick-or-treating, but Charlie Brown repeatedly gets "a rock." For Warren, debt is all rocks and no candy.

This is nonsense. Rocks no more magically appear in one's backpack than debt does on a balance sheet. Consumers do not collect debt, they collect the things they buy with debt. They buy refrigerators, cars, orthodontics, college tuition, clothes, and vacations on credit. If the hikers have too many rocks in their backpacks, it is because they put them there. Thus, if debt "causes" bankruptcy, it is only because overspending and an unwillingness to live within one's means "causes" debt. In short, one can simply recharacterize the "debt causes bankruptcy" thesis as "overspending causes bankruptcy."⁽¹⁸⁰⁾ The purported causal link is ambiguous.

Warren and other "debt causes bankruptcy" theorists have confused cause and effect: credit is the means used to accomplish the end of acquiring possessions by borrowing against future income. What we want has nothing to do with how we are going to pay for it.⁽¹⁸¹⁾ Warren and others may disapprove of some of the purchases that were financed through borrowing. Indeed, many commentators believe that Americans are increasingly unwilling to live within their means.⁽¹⁸²⁾ So why does Warren believe it is the debt that consumers should shed, rather than the spending habits that led to the debt? Forcing other hikers to carry "rocks" voluntarily picked up by the irresponsible hardly seems fair.

In this melodrama of borrower versus lender, or perhaps hiker versus rocks, credit card lenders have become the convenient villain.⁽¹⁸³⁾ The ubiquity and visibility of credit cards, and their apparent high interest rates, make them easy targets. But, as even the bankruptcy advocates know, credit card debt, although historically high, is not nearly the largest component of consumer debt.⁽¹⁸⁴⁾ That distinction goes to housing debt, including mortgages and home equity loans.⁽¹⁸⁵⁾ According to a study by SMR Research Corporation, "In 1997 the total dollars owed on residential mortgages were $4.027 trillion, and the total owed on all revolving debt had reached $529.7 billion."⁽¹⁸⁶⁾ And while credit card and related debt increased by $375.8 billion from 1987 to 1997, "mortgage debt increased by more than $2 trillion" during that same period.⁽¹⁸⁷⁾ As the report concludes, "It just happens to be true that most of the consumer debt in this country is housing debt, not credit card debt, and the real estate debt also is what has been increasing most rapidly by far."⁽¹⁸⁸⁾ Current indebtedness on credit cards is even lower.⁽¹⁸⁹⁾ Critics are not only wrong but opportunistic in singling out credit card debt as if it were the major component of the personal debt burden.⁽¹⁹⁰⁾ No one is forcing anybody to buy a larger or more expensive house than they can reasonably afford.

But consumer credit is not limited to its more visible forms of credit card and housing debt. As Stuart Feldstein of SMR Research noted in his testimony to Congress,

Any business is a creditor when it provides good[s] or services and waits to be paid for them later on: electric and gas utilities, phone companies, landlords, retail stores with credit cards or other credit plans, doctors, dentists, hospitals, and others. All these businesses extend credit without collateral and lose what they are owed when unsecured debts are expunged in bankruptcy. So, the cost of bankruptcy is included on the expense side of the income statement. . . . Consumers may or may not be aware of it, but most of what they spend every month has a bankruptcy cost factor built into it, from the phone bill to the car payment to the rent and the credit card bill.⁽¹⁹¹⁾

Contrary to the mantra of those who oppose bankruptcy reform, we all really do pay for the large number of bankruptcies.

Given the ubiquity of consumer credit in the economy, if it is true that debt causes bankruptcy, then it is simply wrong to lay the blame at the door of credit card issuers, or any other particular segment of the consumer credit market. Instead, if debt causes bankruptcy, this is an indictment of all forms of consumer credit. In fact, some have advocated just such broad-ranging limitations on consumer credit, including draconian regulations on mortgage lenders, home equity lenders, unsecured credit card lenders, and secured lenders for personal property. While such a view at least has the virtue of intellectual consistency, it flies in the face of centuries of failed and counterproductive efforts to regulate credit terms. In addition, such proposals would not only inevitably disrupt credit markets significantly, they would tend to harm the very lower-income and marginal borrowers they are presumably intended to help.⁽¹⁹²⁾

B.Credit Cards and Bankruptcy

The argument against credit card issuers ties in closely with the debt-causes-bankruptcy hypothesis.⁽¹⁹³⁾ Those who believe that lenders are taking advantage of consumers sound a populist theme. They castigate the apparently promiscuous marketing practices of credit card issuers and high and inflexible credit card interest rates. They inveigh against the addictive potential spawned by millions of credit card solicitations, many of them "pre-approved," which are mailed every day by credit card issuers.⁽¹⁹⁴⁾ Critics worry that "[companies] specializing in lending to borrowers with tarnished credit histories have been among the fastest-growing credit issuers in the past five years" and that this market will probably expand in coming years.⁽¹⁹⁵⁾ Special disdain is reserved for marketing targeted at lower-income and young people, especially college students.⁽¹⁹⁶⁾

Advocates of the status quo for bankruptcy play up the significance of credit card debt for its obvious political value: the issuers are rich banks, they "hook" consumers with aggressive and even misleading marketing campaigns, and because of the high interest rates, consumers become caught on an endless treadmill of monthly payments before they know what hit them. Since credit card issuers have been among the vocal proponents of bankruptcy reform, their proposals, like their ability-to-repay research, can be characterized as an agenda to entrench parasitic lending practices. In short, credit cards have become the modern equivalent to William Jennings Bryan's "Cross of Gold," crucifying consumers in the pursuit of ever-greater profits.

The attack on credit card issuers has gained currency in the popular press⁽¹⁹⁷⁾ and on Capitol Hill. Given the widespread misimpression of the link between credit cards and bankruptcy, it is necessary to discuss the issue in some detail. We do not aim to defend every aspect of credit card lending policies, but we will illustrate that credit card markets are competitive to a degree that the attacks on credit card issuers are ill-founded.

The case against credit card issuers is rooted in the research of Professor Lawrence Ausubel.⁽¹⁹⁸⁾ Ausubel emphasizes the inflexibility of consumer use of credit cards, the "stickiness" of interest rates at a high level, and the issuers' supranormal profits. Taken together, these factors suggest to Ausubel that the market for credit cards is insufficiently competitive, leading to conditions in which the issuers have the ability and incentive to exploit their customers in the pursuit of ever-higher profits. Although Ausubel has reached a remarkable level of notoriety in bankruptcy circles because of the political implications of his research, all of his central findings and conclusions have been seriously undermined by more comprehensive and current research.

1. Consumer credit card debt as a result of spending habits

Ausubel first asserts that consumers are too ignorant or inflexible to modify their credit card usage in order to prevent being exploited.⁽¹⁹⁹⁾ Critical to Ausubel's inflexibility hypothesis is the claim "that many consumers systematically underestimate the extent of their current and future credit card borrowing and, using these underestimates, make suboptimal decisions regarding the choice and usage of credit cards. In particular, consumers underestimate their credit card balances and, thus, underrate the importance of credit card interest rates . . . ."⁽²⁰⁰⁾ For Ausubel, credit card companies consider a "good" credit card consumer as one who routinely underestimates his ability to repay his balance and thus carries over a balance from month-to-month. Because so many consumers behave in this manner, Ausubel believes that credit card issuers are guaranteed substantial profits for the indefinite future.⁽²⁰¹⁾

Theories whose validity depends on the assumption that consumers are stupid about their money ought to arouse suspicion. And, unsurprisingly, a more plausible explanation is available. The transaction between credit card issuers and consumers is far more complex and hardly as exploitative as Ausubel supposes. Credit cards are useful for consumers in two ways.⁽²⁰²⁾ They are a useful means for financing transactions for so-called "convenience users" who use them as a substitute for cash and checks. Credit cards are also a useful source of short-term credit for "revolvers" who carry over balances from one month to the next.

For convenience users, credit cards offer an attractive substitute for cash and checks,⁽²⁰³⁾ making it unnecessary to maintain cash reserves sufficient at all times to cover current expenditures. Given that cash and checking accounts usually produce no or little interest, consumers will seek to minimize the amount of time that their money sits in their wallets or in low-interest checking accounts. For some transactions, such as catalogues, internet sales, and phone orders, credit cards are essential.⁽²⁰⁴⁾ Credit cards also allow the consumer to carry a balance interest-free not only during the credit cycle, but even for a "grace period" of twenty or more days after the credit period ends. This feature allows the consumer to continue to have access to his bank balances.⁽²⁰⁵⁾

Credit cards offer other transactional benefits over checks and cash. Many companies award frequent flyer miles and "bonus points" that can be redeemed for goods and services. End-of-year credit card summaries provide information useful in calculating taxes and household budgets. Consumers can use the leverage of credit card companies to challenge sums due on defective merchandise. Card issuers offer such products as car rental and purchase insurance. The Discover Card even gives its users cash rebates on the amounts charged. Neither checks nor cash transactions offer this wide range of benefits.⁽²⁰⁶⁾ No wonder that more than half of the usage of bankcards is for convenience only and is paid off immediately without revolving.⁽²⁰⁷⁾

For revolvers, credit cards are an effective device for financing short-term swings in expenditures on purchases such as unanticipated car or home repairs, Christmas shopping, and vacations.⁽²⁰⁸⁾ Further, interest rates on credit cards have fallen substantially in recent years, initial "teaser" rates are even lower,⁽²⁰⁹⁾ and annual fees have been eliminated for many cards.⁽²¹⁰⁾ Again, it must be remembered that credit cards are merely a means to conduct these transactions and must be compared against alternative sources of short-term credit. Credit cards enable consumers to borrow amounts within their credit limit at close to zero transaction costs. The low transaction costs of these loans more than offset the higher interest rates of borrowing on credit cards. For instance, a debtor could try to get a bank loan to cover such short-term expenses, as car repairs or the purchase of a refrigerator. According to Brito and Hartley, "A senior bank officer told us that the costs to the bank of processing a loan are so high that they cannot afford to make a loan of less than $3,000 for 1 year except at interest rates above those charged on credit cards."⁽²¹¹⁾ Thus, bank loans of similar size and duration either do not exist or are available only at terms more onerous than those offered by credit card issuers.⁽²¹²⁾ In fact, few revolvers carry balances close to that figure.

Absent credit cards, therefore, the practical alternatives for a debtor seeking a short-term loan are pawn shops, loan sharks, or low-interest layaway plans.⁽²¹³⁾ Alternatively, a consumer could sell some of his personal assets for whatever he can get for them. Either way, the burden on the debtor is higher than the interest rates any debtor is paying on credit cards. Restricting the access of low-income and young debtors to credit cards may seem like a fine idea to some, but it would either drive many Americans into the arms of pawn shops, loan sharks, and even higher-interest lenders or force on them difficult financial choices.⁽²¹⁴⁾

2. Stickiness of credit cards is not evidence of lack of competition

Ausubel also charges that the "stickiness" of credit card interest rates evidences a lack of competition in the credit card market.⁽²¹⁵⁾ Brito and Hartley's analysis refutes this charge. Ausubel's model looks only at the supply of funds to the credit card market and ignores consumer demand for credit cards. Once consumer demand for credit cards is considered, it is evident that credit card interest rates will change in tandem with interest rates on competitive assets, such as interest rates on checking accounts and the availability of regular bank loans.⁽²¹⁶⁾ Focusing solely on credit card interest rates is also misleading, in that it ignores many of the other benefits of credit cards identified above, such as the elimination of annual fees and cobranding benefits such as frequent flyer miles. Significantly, the majority of card users are convenience users who pay their balances each month.⁽²¹⁷⁾ For them, interest rates are irrelevant, especially compared to the other benefits offered by credit cards.⁽²¹⁸⁾ Even for those who use their cards for credit and revolve balances from month-to-month, the advantages of shopping for lower rates are minimal.⁽²¹⁹⁾ Using interest rates as the only proxy for vigorous competition is tantamount to saying that the automotive industry is noncompetitive because car manufacturers increase quality through improved safety, comfort, or gas mileage, rather than simply cutting prices.⁽²²⁰⁾ Such a conclusion would obviously be incorrect when applied to cars, and it is equally incorrect when applied to credit cards.

3. Credit card companies' mass mailing marketing practices are not exploitative

Chastising the marketing practices of credit card companies, as many critics do, is also misguided. Mailed credit card solicitations are "merely advertisements," says William Binzel, a spokesman for the credit card industry.⁽²²¹⁾ "Just as consumers ought not go have a Big Mac every time they see a McDonald's ad, they probably ought not avail themselves of every credit card solicitation they receive."⁽²²²⁾ Nobody is holding a gun to consumers' heads and forcing them to send in credit card applications. Indeed, the alternatives to direct mail, such as in-person solicitations and telemarketing, are fraught with far more possibilities of abuse and manipulation than is direct mail.

In a market full of credit card choices, aggressive mail solicitations may be necessary to inform consumers of the alternatives. Mail solicitations are perhaps the only reliable way to obtain information on the customer's finances that will allow an issuer to decide whether to supply a card. At the same time, however, responding to direct-mail solicitations requires effort on the borrower's part, which explains the low yield rate for individuals contacted via direct mail.⁽²²³⁾ Finally, it must be remembered that mass credit card solicitations are hardly a unique source of junk mail and that mass solicitations of credit purchases are not unique to credit card issuers. Every time a merchant accepts a check in payment, the merchant is extending short-term credit without knowing the consumer's bank balance. Mass marketing may expend millions of the issuers' dollars, but it is not self-evident that it preys upon consumers.

Accusations that credit card issuers "exploit" young and low-income customers also miss the point both logically and empirically. First, it is not clear why it is a problem for young and lower-income customers to have credit cards. Both groups are unlikely to have access to alternative sources of competitive credit, such as home equity loans. Credit cards allow them to borrow against current and future income with low transaction costs and without having to pledge their personal property as collateral.⁽²²⁴⁾

Second, if credit card issuers are actually targeting young and low-income borrowers to "hook" them on credit cards, the evidence suggests that their tactics are not working. First, most of the growth in credit card debt in recent years is attributable to increases among upper-income debtors, not lower-income debtors.⁽²²⁵⁾ In 1995, upper-income households were more than three times more likely to have a credit card as those in the lowest income groups,⁽²²⁶⁾ and credit card indebtedness was nearly twice as high among upper-income households as lower-income.⁽²²⁷⁾ Moreover, both credit card ownership and indebtedness levels increased with income.⁽²²⁸⁾ And while low-income households were increasing their total credit card indebtedness along with everyone else, the growth in total balances has been consistent with previous eras.⁽²²⁹⁾ The claim that credit cards are exploiting low-income consumers is difficult to square with the evidence.

While there is anecdotal evidence that credit card issuers are aggressively soliciting young and college-age customers, the claim that credit card issuers are exploiting young borrowers is also suspect. Most of the growth in credit card indebtedness is "attributable to higher average credit card debt per household, not from more households with access to credit cards."⁽²³⁰⁾ Young borrowers, by definition, will tend to be new credit card users. Thus, if credit card issuers were being successful in "hooking" young borrowers, the data would indicate a growth in credit card indebtedness among new credit card customers, rather than existing credit card holders. As with the claim that credit card issuers are exploiting low-income customers, the data refute the hypothesis that credit card issuers are exploiting young customers as well.

The confusion of those who fault credit card issuers for solicitations concerning "pre-approved" cards is illustrated by an old joke about the person who opened a new checking account and thought he could go out and write all his checks: "After all, they wouldn't have given them to me if I wasn't supposed to use them." Of course, we know we are not allowed to write all those checks if we do not have sufficient funds to pay for them. If a check bounces, no one would blame the bank for giving out the checks and "inducing" the customer to write them. Why, then, should "pre-approved" credit card applications stand on a different footing from "pre-approved" checks? Both are offered on the assumption that they will be used only if one has the ability to honor the debts incurred.

4. Moderation in credit card profits suggests robust competition in the credit card industry

The third prong of Ausubel's thesis is that card issuers have the incentive to exploit consumers because of the supranormal profits earned on credit cards. While this claim may have had some empirical support at some point in recent history, it is questionable today. In 1991, when Ausubel conducted his initial study, profits may have been higher, as consumers and banks were learning to deal with the explosion of consumer credit in the 1980s.⁽²³¹⁾ Early entrants into markets can earn economic rents, which are dissipated as the market matures. Thus, Ausubel's initial study concerned a period of time that may have been uniquely fertile for profits on credit cards.

Banks' profits on credit cards have, however, declined rapidly in the period following Ausubel's study and are expected to continue to fall.⁽²³²⁾ Stuart A. Feldstein of SMR Research observes that for the sixty largest credit card issuers, from 1994 to 1996 "after-tax profits as a percent of average managed assets declined from 2.26% to 1.31%," primarily due to bankruptcy-related losses.⁽²³³⁾ Feldstein further predicted that for 1997, the profit margin will fall to just over 1%.⁽²³⁴⁾ Another study reports an after-tax return of 1.2% in 1996⁽²³⁵⁾ and 1.5% in 1997, well below the peak profitability of 1993.⁽²³⁶⁾

Credit card loans, moreover, are significantly riskier than other loans;⁽²³⁷⁾ thus, risk-adjusted profits are significantly lower than Ausubel suggests. As a result of this higher risk, credit card issuers also maintain significantly higher average equity to asset and loan loss reserves to total loan ratios than for other operations.⁽²³⁸⁾ Lawrence Lindsey, a member of the Board of Governors of the Federal Reserve System, testified to Congress,

The strong earnings profiles of the credit card banks, and their associated capital and reserve allocations, are reflections of the risks associated with this form of lending. Higher risk and higher return go hand-in-hand, and the higher capital and reserves associated with this form of credit are required to balance the risk. Put another way, lenders active in the credit card business are conscious of higher potential loss rates and expect returns that will fully absorb these losses and still provide an adequate profit margin.⁽²³⁹⁾

Because the profits that exist are not evenly distributed among all issuers in the market, several card issuers have curtailed their credit card operations in the face of mounting losses.⁽²⁴⁰⁾ As one article observes,

The bank card industry seems to be dividing into a society of haves and have-nots. On the one hand, there are the monoline credit card issuers and a handful of card operations owned by large banks. Many of these card programs reported profit increases of 20% or more in 1997 despite high chargeoffs and record consumer bankruptcies. On the other hand are the great majority of card issuers that are experiencing poor or mediocre returns.⁽²⁴¹⁾

The profits from credit cards during the early 1990s may also have been inflated when compared to the returns from other sectors of the banking industry. The profits from credit cards may be overstated because of the relative unprofitability of other sectors of bank activity.⁽²⁴²⁾ There is substantial evidence that this was indeed the case and that profits were lower than usual in other sectors of the banking industry "due to [banks'] exposures to developing countries, energy sector borrowers, and commercial real estate markets,"⁽²⁴³⁾ all of which struggled during the 1980s and early 1990s.

The moderation of profits for credit card issuers was the inevitable consequence of the explosion of competition in the credit card industry in recent years. As Brito and Hartley state the issue, "Several authors . . . have argued that even though the market for bank credit cards is unregulated, has thousands of independent firms, many of them recent entrants, and has millions of consumers, it nevertheless appears to be noncompetitive."⁽²⁴⁴⁾ Between 1988 and 1991, for instance, the number of companies issuing credit cards grew from approximately 4,000 to 6,000.⁽²⁴⁵⁾ Millions of Americans carry credit cards. Competition has significantly reduced the very profits of which Ausubel complains.⁽²⁴⁶⁾ Consider the following discussion from Credit Card Management magazine:

Issuers need look back no further than the onset of the 1990s for a textbook case of such an occurrence. At the time, money center banks were the dominant issuers, thanks to the resources brought on by their size. Despite their power, they had become lethargic, charging interest rates of 18.9% or 19.8% and $20 annual fees for plain-vanilla cards. When the specialty card issuers, such as Household, AT&T, and First USA, began shaking up the business with contrarian marketing strategies that eliminated annual fees, slashed interest rates, and offered cardholders rich rewards for using their cards, the money centers were not creative enough to counter the assault on their domain.⁽²⁴⁷⁾

The result was a precipitous loss of market share for leading banks such as Bank of America, Chase, and others. Of the money centers, only the top issuer Citicorp "managed to hold its place in the standings, but its growth rate in recent years has lagged that of the specialists."⁽²⁴⁸⁾

Ausubel's focus on the alleged premia on interbank sales of credit card accounts as evidence of supranormal returns and a lack of competition in the credit card market is also misplaced. It fails to account for the transaction costs of credit card accounts, which tend to be substantially higher than for other types of bank loans.⁽²⁴⁹⁾ Thus, the higher amounts paid on interbank sales of accounts probably simply reflect the savings on transaction costs of the purchasing bank.⁽²⁵⁰⁾

In short, Ausubel continues to sound warnings about the "credit card menace" without realizing that the consumers have already won the credit card Cold War. The heavy marketing that has been described indicates that the credit card market is ferociously competitive and has generated many benefits for consumers, from no annual fees, to falling interest rates, to frequent flyer miles. Smaller card issuers have begun to enter into joint ventures with companies with complementary resources, so as to meet consumer demand for these "cobranding" perquisites.⁽²⁵¹⁾ In such a heavily contested market, common sense alone suggests that long-term high profits are not sustainable, and the evidence confirms this view. It further suggests that credit card losses do not simply reduce supranormal bank profits, but must be passed on in a competitive market. Thus, there are efficiency losses, not just a wealth transfer from creditors to debtors.

The increased competition among issuers is mirrored by increased sophistication among consumers who are turning it to their own ends.⁽²⁵²⁾ The heaviest borrowers are the ones who will find it most worthwhile to change credit cards in response to low "teaser" rates.⁽²⁵³⁾ According to one report, credit card holders "are learning to jump from one promotional low-interest-rate lender to the next, just like shopping for the lowest-priced tank of gas."⁽²⁵⁴⁾ One such "card surfer" whittled down massive credit card bills by jumping through the low "teaser" rates of five different cards. "I'm beating them at their own game," he says.⁽²⁵⁵⁾ Indeed, card issuers complain about their inability to keep these card switchers "captured," thereby requiring them to "steal[ ] the same people over and over."⁽²⁵⁶⁾ An analyst observes that say credit card consumers "pay off Peter with Paul--at a lower rate. . . . And by the time Paul wants a bigger payment, Jane comes around with a better offer."⁽²⁵⁷⁾ Given the low rates offered by these cards, it is difficult for banks to actually make profits from these borrowers during the introductory period.⁽²⁵⁸⁾ And while banks have increased late fees and other charges,⁽²⁵⁹⁾ in practice banks are reluctant to enforce these fees because of their fear of losing customers.⁽²⁶⁰⁾ In short, the image of consumers as passive sheep being shorn by ruthless credit card issuers is outdated.

To the extent that credit cards are blamed for the bankruptcy boom, the charge would appear to lack substance. Credit cards have empowered consumers, furnishing them convenience and nonmonetary benefits. Moreover, they have also aided in the growth of millions of small businesses by reducing the businesses' risk of loss from nonpayment of accounts and by enabling them to compete with Sears and other big retailers who used to dominate the retail credit market.⁽²⁶¹⁾ The creation and growth of niche internet and catalogue businesses is almost completely dependent on widespread access to credit cards. That card issuers reaped good profits during the early years of their innovation is neither exceptional nor blameworthy. What is blameworthy is that the industry should be demonized in order to avoid confronting the real causes of escalating bankruptcy filing rates and to stifle bankruptcy reforms.

C.Other Causes of Bankruptcy

Advocates of the status quo have pointed to additional purported causes of bankruptcy that fortify their belief that bankruptcy represents not a choice but a necessity. Professor Warren, for instance, writes that "inquiries [and possible solutions] must reach well beyond the bankruptcy system."⁽²⁶²⁾ To the extent that debt and credit cards are not the problem, she points to "[t]he coverage and stiffness of the social safety net, the implications of lack of medical insurance, [and] job layoffs and downsizing."⁽²⁶³⁾ The solutions require "[b]etter health insurance coverage, limits on credit solicitations, and better consumer credit disclosures."⁽²⁶⁴⁾ Jean Braucher similarly argues that the causes of bankruptcy include "the combined effect of various forms of social instability, including divorce, lack of medical insurance, and changes in employment practices (such as downsizing and increased use of contract and part-time workers)."⁽²⁶⁵⁾ These factors have been reported in other publications.⁽²⁶⁶⁾

Although often-repeated, there is little empirical support for these views. Indeed, most credible empirical evidence undermines their presuppositions. The challenge is not to explain every bankruptcy filing of the 1990s but to explain the dramatic increase from less than 800,000 consumer filings in 1993 to 1.35 million in 1997.

We also do not claim that none of these other factors affects bankruptcy filings. Time and further study may reveal their impact, but here we emphasize that the critical studies have not yet been done. On the contrary, several of the popularly-cited factors seem refuted by available evidence. In our view, there are additional hypothetically reasonable factors that have been routinely ignored but should provoke further study. We suggest only that many of the factors commonly advanced as bankruptcy determinants lack empirical support, while other highly-plausible factors have been arbitrarily excluded from the bankruptcy debate.

Consider the references to "job layoffs and downsizing." In the first place, neither Warren nor Braucher defines the term "downsizing," nor do they identify how many workers have been subject to "downsizing."⁽²⁶⁷⁾ To the extent that individual "job layoffs" are something different from downsizing, in an economy where unemployment stands at five to six percent it is hard to imagine that this could explain the recent massive increases in bankruptcy filings.⁽²⁶⁸⁾ Brinig and Buckley, for instance, found little support for the hypothesis that job loss or poverty was a significant factor in bankruptcy filings.⁽²⁶⁹⁾ Fay, Hurst, and White's study also found that unemployment by a head of a household or spouse is not significantly correlated with bankruptcy filings.⁽²⁷⁰⁾ Warren's and Braucher's implication that there is widespread fragility in the labor market, leading to higher systemic level of bankruptcies, lacks proof. And even if layoffs did cause bankruptcies, the unemployed are the low-income debtors that means-testing would leave unaffected.⁽²⁷¹⁾

Large uninsured medical bills and accidents by uninsured motorists are also often cited as causes of bankruptcy.⁽²⁷²⁾ Empirical support for this proposition is also lacking, as Fay, Hurst, and White found that health problems for the head of a household or the spouse are not significantly correlated with bankruptcy filings.⁽²⁷³⁾ More important, no correlation has been shown between such problems, admittedly a factor in some core level of bankruptcies, and the recent explosive growth of filings. Further, it simply does not follow that "better health insurance" is the answer to the problem of high medical bills, as the current system of employer-provided health insurance is partly responsible for the current high costs of the medical system.⁽²⁷⁴⁾ The idea that high medical bills can explain the spiraling increase in bankruptcy filing rates is also contradicted by the moderation in the rise of health care costs during this period.⁽²⁷⁵⁾ And for both medical bills and automobile accidents, tort reform would be a logical way to reduce the costs of these variables, perhaps making them less cataclysmic. The claim that "better health insurance" is the solution--to the exclusion of all these other factors--reflects ideological bias, rather than sober analysis.

In contrast to speculative observations about job layoffs, downsizing, medical bills, and uninsured auto accidents, Warren and Braucher ignore other factors that actually have been demonstrated to affect certain consumers adversely: legalized gambling, student loans, increases in the minimum wage, and high tax rates. A close association has been demonstrated between legalized gambling and high rates of bankruptcy in the vicinity of the casinos or similar establishments.⁽²⁷⁶⁾ Just as provocative are the negative effects of the minimum wage, most strongly felt by marginal workers, such as the young and unskilled.⁽²⁷⁷⁾ While economists are notorious for their inability to agree on many concepts, a recent survey of a cross-section of professional economists reveals that 56.5% of those surveyed "generally agree" with the statement that "[a] minimum wage increases unemployment among young and unskilled workers."⁽²⁷⁸⁾ A recent study estimated that each 10% increase in the minimum wage reduces employment by approximately two to four percent over a two year period.⁽²⁷⁹⁾ Moreover, increases in the minimum wage also are generally offset by reductions in other benefits, such as eliminating bonuses, cutting paid vacations and sick leave, and reductions in severance pay and sick pay.⁽²⁸⁰⁾ Deprivation of these ancillary benefits would seem to be related to the propensity to file bankruptcy, as they impose greater vulnerability in times of illness and forced unemployment. Thus, increases in the minimum wage inevitably result in layoffs and reduced benefits to the most vulnerable workers in the economy.⁽²⁸¹⁾

Omitting the burden of taxes from the list of bankruptcy causes is an even more glaring oversight. A 1997 Gallup Poll revealed that 10% of bankruptcy debtors filed partly because of tax burdens, a percentage that exceeded college expenses and death in family, and was five times higher than those reporting that gambling pushed them into bankruptcy.⁽²⁸²⁾ A Visa poll showed that 3.1% of respondents filed bankruptcy because of taxes.⁽²⁸³⁾ Testimony before the NBRC suggested that tax arrearages play an even greater role than these statistics identify.

Of course, the survey data do not account for the ways in which taxes strip families of take-home pay and sap them of savings that would otherwise be available to withstand financial difficulties. Because large tax payments come "off the top" of family income, survey respondents would tend not to think of them as a proximate cause for bankruptcy, but they are unquestionably significant in the ability to pay family expenses and to save for emergencies. Taxes devour massive amounts of personal income that would be available to finance consumption without having to take on additional debt. For some people, taxes take as much as forty to fifty percent of their income. This burden has increased substantially during the same period that bankruptcies have risen. From 1990 to 1997 taxes increased 58% and as a percentage of GNP now stand near their highest ever percentage levels, thereby cutting substantially into workers' take-home pay.⁽²⁸⁴⁾ Taxes also drain extra income that Americans could save to deal with unexpected financial catastrophes.⁽²⁸⁵⁾ Nonetheless, while Braucher bemoans the low savings rate,⁽²⁸⁶⁾ neither she, Warren, nor the NBRC suggests that tax reform and tax reduction would be a solution to escalating bankruptcies.

It should also be remembered that most consumer debt is actually housing debt.⁽²⁸⁷⁾ This suggests a number of possible reforms designed either to reduce housing debt directly or indirectly by reducing housing costs. For instance, it seems that those who express concern about consumer debt would oppose the tax deductibility of interest payments on mortgages. The ability to deduct mortgage interest payments invariably leads home buyers to minimize their down payments and take on greater mortgage debt than they can afford. If debt and bankruptcy are, in fact, correlated, then this increases their leverage, potentially making them more vulnerable to bankruptcy.⁽²⁸⁸⁾ Similarly, Warren, Braucher, and the NBRC are silent as to the environmental, labor, zoning, and other regulations which artificially inflate the cost of housing, thereby increasing consumer indebtedness.⁽²⁸⁹⁾ Indeed, it appears that such tax and regulatory reforms never even register in their world views.

We are not claiming that minimum wage, taxes, or a runaway tort system explain the large number of consumer bankruptcies or the rapid growth in recent years. These are mere hypotheses, but they are logically just as related to the problem as economic downsizing and high medical bills. In fact, to the best of our knowledge, the factors we have identified remain untested, whereas there is substantial empirical evidence rebutting the factors identified by advocates of the status quo. Their list is little more than hand waving and faculty lounge speculation, perhaps rooted in ideological biases but most definitely not in scientific evidence. Indeed, as Professor Warren recognizes, the factors that have caused increased filings warrant further investigation. But to be fruitful, further investigation should proceed in an air of full honesty and not according to a highly-selective list of variables identified primarily on ideological or other nonscientific grounds.

V.Conclusion

The time for principled means-testing has come. Today, judges struggle to apply means-testing under § 707(b) but have spawned confusion, unnecessary litigation, non-uniformity, and both actual and perceived abuse and unfairness. The bankruptcy boom has been aided and abetted by a combination of the increasing net economic benefits of bankruptcy and the fading self-restraint traditionally produced by the shame and social stigma of bankruptcy. Means-testing will help restore balance, predictability, equity, and public confidence in the system. As passed by the House, it requires well-off, income-earning debtors to earn the benefit of the automatic stay and discharge by making modest payments to unsecured, nonpriority creditors.

Shame and stigma are precarious social values that can erode rapidly. As we see from the examples in Memphis, everyone is considered a cheat until proven otherwise. The result has been to paralyze the system of consumer credit in Memphis. In the end, all consumers pay for bankruptcy through higher prices and higher interest rates. It is time for the bankruptcy system to become less pro-debtor and more pro-consumer.

Table I ⁽²⁹⁰⁾

Table II ⁽²⁹¹⁾

1. * Judge Edith H. Jones has sat on the United States Court of Appeals for the Fifth Circuit since 1985 and served as a member of the National Bankruptcy Review Commission from 1995 to 1997.

2. ** Todd J. Zywicki is an Assistant Professor of Law at George Mason University School of Law. He received his J.D. from the University of Virginia in 1993 and a Masters of Economics from Clemson University in 1990. The authors would like to thank Dagobert Brito, Marcus Cole, Peter Hartley, Scott Norberg, Jeanne Wendel, Jack Williams, and Kimberly M. Zywicki for comments on an earlier draft of this article. They would especially like to thank Professors Marianne Culhane and Michaela White of Creighton University School of Law for their patient and helpful responses to inquiries about their study. Professor Zywicki would also like to thank the Law and Economics Center at George Mason University School of Law for financial support for this project.