Bankruptcy Reform and the "Sweat Box" of Credit Card Debt

Abstract

Those that backed the 2005 bankruptcy reform law argued that it would protect creditors from consumer abuse and lack of financial responsibility. The substantial increase in the number of bankruptcies over the last decade combined with the perception of systemwide abuse apparently convinced legislators from both political parties that the backers had a point. Thus, Congress enacted amendments to the Bankruptcy Code that -- if effective -- would fundamentally change the core policies underlying the consumer bankruptcy system in this country. The rhetoric surrounding the reform debates pressed the idea that if borrowers had to repay more of their debts, creditors would achieve savings that -- through pressures of competition -- would be passed on to consumers in the form of lower interest rates and improved access to credit. This essay addresses some of the problems with this justification and considers what else creditors (and particularly credit card issuers) could have expected to achieve with the new law. Professor Mann argues that the new law will benefit issuers substantially, though not for reasons commonly discussed in the negotiation and drafting of the statute. Means testing alone will not return enough in increased bankruptcy payouts to justify the lobbying expenditures and campaign contributions that led to the statute's enactment. Rather, the most important effect will be to facilitate the credit card lending business model, by slowing the time of inevitable filings by the deeply distressed and allowing issuers to earn greater revenues from those individuals. In a nutshell, the new law does little for creditors once they reach the courthouse. Its foremost effect will be to enable issuers to profit from debt servicing revenues paid by distressed borrowers who are not yet in bankruptcy. For issuers that depend on debt revenues, the benefits of the law could be dramatic.

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