Finance and Economics Discussion Series

The Credit Market Consequences of Job Displacement

Benjamin J. Keys
2010-24

Abstract: This paper demonstrates the important role of job displacement in the household bankruptcy decision. I develop a dynamic, forward-looking model of unemployment and bankruptcy where persistent negative income shocks increase a household's likelihood of filing for bankruptcy both immediately and in the future. Consistent with the model's predictions, I find that households in the NLSY are 2.5 times more likely to file for bankruptcy in the year immediately following a job loss, at a rate of an additional 10 bankruptcies per 1000 job losses. Heightened bankruptcy risk then declines in magnitude but persists for two to three years. Aggregate patterns in job loss and bankruptcy are also consistent with the micro model. Using county-level data, I similarly find that 1000 job losses are associated with 8 to 11 bankruptcies and that the effects also last two to three years. In addition, the loss of a manufacturing job, a proxy for a more persistent separation, is three times more likely to lead to bankruptcy than the loss of a non-manufacturing job. The results suggest that even relatively brief unemployment spells can have significant long-term consequences on households' credit market outcomes.

Keywords: Job displacement, personal bankruptcy, household finance, event study