The Paradoxical Bankruptcy Discharge: Rereading the Common Law-Civil Law Relationship

Abstract

The recent global trends in personal bankruptcy policy – in particular, the European tendency to introduce discharge of consumer debt – represents a unique opportunity to have a second and deeper look at bankruptcy discharge and assess the effectiveness of the American debate on this topic. This study intends to show the limits of the highly ideological U.S. debate on consumer bankruptcy and to challenge the wisdom of both the progressive and law-and-economics bodies of scholarship. The first paradox unveiled by this study is that the very same remedy intensely defended by pro-debtor scholars as an essential safety net for the American lower-middle class becomes a powerful incentive toward overindebtedness, and therefore a fundamental means of profit for lenders, when that policy is shaped in overly liberal terms. Once one observes the practice of discharge through the lens of behavioral law-and-economics, a second paradox emerges. The tendency toward overindebtedness and consequent vulnerability of borrowers, and the corresponding prosperity of financial industries, is much more pronounced in that tradition where debtors are considered to be protected more strongly (i.e., common law). On the other hand, those legal systems that have historically adopted a more severe approach toward debtors’ relief, and are therefore conventionally considered more favorable to creditors (i.e., civil law), are characterized by more sound and financially solid borrowing practices and a less expansive supply of consumer credit, which helps to insulate consumers from potentially disastrous debt. Such an assertion lays the foundation for a new normative analysis of discharge in which it will be suggested that in order to truly protect debtors, contrary to traditional progressive ideas, it is necessary to adopt a less paternalistic approach, which takes into consideration the incentives that bankruptcy discharge poses to debtors. This ex ante perspective, different from the one supported by law-and-economics scholarship, arrives at the conclusion that in order to ultimately make debtors safer, it is necessary to tighten access to the discharge and restore its original founding principle of protecting not any overindebted individual but exclusively the honest but unfortunate debtor.