tdaxp

"Bankruptcy Reform and Credit Cards," by Todd Zywicki, The Volokh Conspiracy, http://volokh.com/archives/archive_2005_02_14.shtml#1108490249, 15 February 2005 (from The Corner).

I'm Not Implying That SS Is Optional...," by "Aaron," tdaxp, http://tdaxp.blogspirit.com/archive/2005/02/09/farm_subsidies_welfare_queens_and_kings.html#c38898, 16 February 2005.

Aaron's comment is well written and wide ranging. I will have to take some time to digest it fully. But a quick opening salvo, tied into a recent Volokh Conspiracy post...

Aaron writes

Maybe it all boils down to my recurring fear: I am worried that as the other half lives better and better, the lower/middle classes will aspire harder and harder to fit in. I'm perfectly happy with Levi's or anything else I can get at ShopKo. However, I'd say I'm a rarity. Easy access to horribly high interest credit drives more and more of the unwashed into debt. Now, I know the Republican party is earnestly trying to erod away the concept of bankruptcy for individuals, but that's an argument for another day. I'm worried that some day not too far off, there's a great reckoning in the credit industry, and as a result, those of us who are responsible end up taking it in the shorts. Maybe interest rates skyrocket, or maybe they plummet. Maybe there's a period of economic instability. Maybe all the execs sail away on private yachts and the companies simply fold. It's hard to say.

Naturally, the first question everyone wants to know is isn't the need for bankruptcy reform just a response to "too much" credit card credit. In fact, this argument not only lacks empirical foundation, it lacks sould economic theory to support it.

First, the argument doesn't make much sense from an economic perspective. Unless credit cards have somehow removed the borrowing constraint on individual credit (and no one has provided any evidence that it has), there would be no reason to believe that credit cards would increase overall household indebtedness.

Instead, economic theory would predict that the primary effect of the introduction of credit cars would be to shift around patterns of consumer credit use, by substituting credit card debt for other less-attractive forms of credit, such as pawn shops, personal finance companies, and retail store credit (such as from appliance and furniture stores). In fact, this is what the evidence indicates has actually happened.

Credit cards have not worsened household financial condition, because although consumers have increased their use of credit cards as a borrowing medium, this increase represents primarily a substitution of credit card debt for other high-interest consumer debt. Although this may seem irrational at first glance given the "high" interest rates charged on credit cards, consider that for consumers the alternatives may include pawn shops, personal finance companies, retail store credit, and layaway plans, all of which are either more costly or otherwise less attractive than credit cards

As this chart indicates, the growth in revolving (credit card) debt has clearly been a substitution from nonrevolving consumer debt to revolving debt, thus leaving overall consumer indebtedness (as a percentage of income) largely unaffected. Revolving debt outstanding has risen during this period from zero to roughly 9% of outstanding debt. Nonrevolving installment debt, by contrast, has fallen from its level of 19% of disposable income in the 1960s, to roughly 12% today. Thus, the increase in revolving debt has been almost exactly offset by a decrease in the installment debt burden. In fact the recent bump in total indebtedness in recent years was not caused by an increase in revolving debt, which has remained largely constant for several years, but by an increase in installment debt, primarily as a result of a recent increase in car loans for the purchase of new automobiles. Thus, there is little indication that increased use of credit cards has precipitated greater financial stress among American households. Because the increase in credit card usage has resulted primarily from a substitution of credit cards for other types of consumer credit, rather than an overall increase in indebtedness.