Bankruptcy has been a fertile ground for the economic analysis of law. A significant portion of bankruptcy scholarship during the past fifteen years applies the basic assumptions of standard economic theory to the problems caused by financial distress. This scholarship begins with the premise that people make choices in a rational manner in order to maximize their individual utility. It applies this axiom to questions ranging from when do individuals file for bankruptcy to how bankruptcy laws affect firms' investment decisions. As it has in most other areas of law (especially private law), law and economics has both reshaped our understanding of extant bankruptcy law and generated numerous proposals for reform.
As illustrated by this symposium, scholars studying the way people make decisions have demonstrated that decision making routinely departs from the ideal posited by standard economic analysis. In various and systematic ways, people make choices which depart from the rational actor model that is the basis of much economic analysis of law. They dislike losses more than they like gains of the same amount, prefer the status quo, do not update beliefs in a rational manner, and otherwise fail to fit the model of Homo economus.
These insights could be used to enrich the study of bankruptcy law in various ways. One such way would be to examine the workings of current law. For example, the extant reorganization process of Chapter 11 is predicated on bargaining among the affected parties, and the literature on behavioral economics suggests that people at times bargain in ways that are more "fair" than they are rational.' Similarly, Congress is currently considering major reform to bankruptcy law as it applies to individuals, based largely on a perception that some individuals use these laws opportunistically. In this Essay, however, I begin the project of re-examining the strand of bankruptcy scholarship that attempts to specify optimal bankruptcy rules for firms in financial distress.
This Essay first identifies the ways in which the normative prescriptions of the economic analysis of bankruptcy law rely on assumptions of individual rationality, and then examines one of these assumptions-namely, the assumption that creditors pass on the cost of an inefficient bankruptcy regime to the debtors to whom they ex- tend credit. This is not to say that the other ways in which the economic analysis of bankruptcy law is driven by the rational actor model are uninteresting or unimportant. Rather, I only hope to show that behavioral economics can enrich the economic analysis of bankruptcy law.
Robert K. Rasmussen,
Behavioral Economics, the Economic Analysis of Bankruptcy Law and the Pricing of Credit,
51 Vanderbilt Law Review
Available at: https://scholarship.law.vanderbilt.edu/vlr/vol51/iss6/5