Download Indebted Society Study Guide – Lecture 2: Household Debt

Lecture 1
I. Key Debtor Groups
Households – getting into more and more debt – most of income is going towards
servicing debt – yet still consuming a lot and not saving for the future – increase in
number of people needing to file for bankruptcy. People are maintaining high levels of
consumption despite lower wages through selling their assets, dipping into savings, and
borrowing.
Government – largest deficit ever, largest current account deficit ever (capital account
surplus). By increasing government spending, the government has needed to borrow
more. This increases the interest rate. Public dissaving is related to vicious cycle.
Corporations – using debt financing (increases rate of return and tax incentives) – makes
them more inflexible, uses iup their cash more likely to outsource and cut benefits to
workers, fire older workers. Firms are foregoing investments in future productivity.
II. Debt Trends
Increase in prosperity  increase in debt
III. Debt in the News
a) Subprime Crisis
A large contributor to the rise in household debt outstanding has been the rise in
mortgage debt, particularly as credit lenders have pushed loans on high risk, or so-called
“subprime” borrowers. Borrowers and lenders have been willing to assume this additional
risk on the basis of rapidly rising home equity values over the past 10 years, thinking that
the value would keep going up. With the recent slowdown in the housing market, these
subprime mortgage defaults demonstrate the adverse effect of US household on the
economy.
b) Leveraged Buyouts
Buying a company using its financial structure (through debt) – Refers to the degree of
debt dining and other advantages to a company of financing in that manner –With a small
amount of investment and deductible interest payment, you can make large returns –
Assets of companies to be acquired and of the parent companies are used as collateral for
loans.
c) Trade Deficit and the Depreciating Dollar
The more the US borrows, the less likely foreign investors will be to lend. This puts
downward pressure on the dollar. A deterioration of the exchange rate means that the
“price” of that borrowing is going up. In other words, that foreigners are increasingly
reluctant to lend to an overly indebted borrower.
IV. Implications
a) Indebted Society Vicious Cycle = Low Saving  Low Investment  Slow
Productivity Growth  Stagnant Income  Low Saving …
Indebted Society Study Guide – Lecture 2: Household Debt, September 19, 2007
I.
The Facts
a. Personal Saving
i. Since the Bureau of Economic Analysis started keeping statistics,
the saving rate in the US has remained between 5% and 10%,
sometimes spiking at 15%. But in the early 1990s, the rate dipped
below 5% and has not seen that level since. Briefly
b. Debt Growth
i. The debt-to-income ratio over the same period has been growing
almost monotonically. It stayed between 0.6 and 0.8 between 1965
and 1985, but after 1985 took off and is now near 1.4.
c. Debt Burden
i. The increase in the debt burden, though a marked increase, is less
staggering. There are two humps in the debt service ratio since
1980. The first was around 1986-1988, the second is a larger
gradual increase that we are still in. The increase in debt service in
the mid to late 80s can be attributed to higher interest rates, but the
more recent rise occurred at a time of low interest rates, so
households must be taking on more debt, on worse terms.
II.
Theories
a. Wealth Effect
i. The stock market boomed over this same period, so one theory to
explain the rising level of debt is that people held stocks, and
actually had more unaccounted-for money as prices rose.
ii. This is actually not really right, though, because:
1. Most Americans don’t own huge amounts of stock.
2. The stock market declined from 2000-2003 and people kept
spending.
b. Instant Gratification
i. People do not save much because they like stuff immediately. This
is modeled by a continually discounted stream of utility:
U(t) = u(t) + sum[d^t * u(t), t, t+1, inf]
ii. This is apparent during finals period, when at first you plan to
study many hours each day but as each day actually arrives, more
leisure is taken than planned for.
iii. This model is important, but does not fully explain the IS because
people have had these habits forever, but the IS happened in the
past 20 years.
c. Insufficient Earnings Growth
i. This is where the money is at (actually it isn’t.) Real average
hourly earnings rose steadily from WWII to the early 1970s, and
then dropped off. Since then they have been stagnant.
ii. People feel like they ought to be getting richer because society is,
but really most people are not getting any richer then they were in
the 1970s. Perhaps they’re borrowing to try and keep up with the
consumer society.
III.
Implications
a. The Vicious Circle. This is pretty simple:
i. Low saving means low investment
ii. Low investment creates slow productivity growth.
iii. Slow productivity growth leads to stagnant income.
iv. Stagnant income creates, you guessed it, low saving.
Lecture 3: Government Debt, September 24, 2007
I.
Supply-side economics
a. Tax cut leads to higher revenue due to behavioral responses (labor and
capital).
b. However, experience shows that government debt increases rapidly
because government does not curb spending.
II.
Demand-Side Economics
a. Tax cut leads to increased demand in the goods market because
consumers have higher disposable income
b. Increased demand leads to inflationary pressures because the economy is
pushed closer to the “overheated” level. Employers find it harder to higher
workers, pushing up wages and product prices.
III.
It may seem like these things are the same, but they’re not.
a. Politicians following demand-side economics tend towards less reckless
accumulation of debt and more spending on infrastructure.
b. Politicians following supply-side economics tend towards outrageous
levels of debt, and lining the pockets of their Republican friends with
unnecessary defense spending (just my opinion).
c. It seems like demand-side economics is better for the economy because
demand-siders are usually Democrats who spend on roads, education,
while supply-siders are Republicans who spend on tax cuts, fighter jets,
and domestic spending generates more jobs then tax cuts and defense
spending.
IV.
The Laffer Curve
a. Supported by math, but not by evidence. Empirical studies show that the
Laffer curve exists at extremely high tax rates, but justifying tax cuts from
40% to 35% using the Laffer curve is bogus.
V.
Voodoo Politics
a. Before Ronald Reagan, politicians were constrained by logic in the
policymaking. Now, following the “big-lie, hose the poor, spend too
much and cut taxes all the while” technique, politicians have been
politically successful but have created a national debt of
$9,200,000,000,000. That level of debt seriously crowds out private
investment and causes interest rates to rise.
Lecture 4: Government Debt
I.
II.
III.
IV.
V.
Historical Context
a. Recessions – Historically large deficits have occurred during times of war or
recession
b. 1980s – brought the advent of supply-side economics, which supports the idea
that if you cut taxes you receive more revenue. This has led to an anomaly:
rising debt levels with no war or recession.
c. Federal Debt as a percentage of GDP highest during WWII (from graphs)
d. Political party of the President is not indicative of the level of Federal Debt
The Cost of Debt
a. Absolute Cost
i. Steadily increased from 1929-1980
1. Between $0-$100billion (constant 2000s) dollars
ii. Drastically increased 1980-2000
1. Surpassed $350billion (constant 2000s) dollars during the mid90s
b. Opportunity Cost
i. Opportunity Cost of Net Interest Payments = yield on each category of
debt x debt outstanding
ii. Majority of interest due to National Defense & Social Security spending
iii. Net Interest as a percentage of Total Federal Budget has greatly
increased in the 1908s, surpassing 10% of the budget in 1982
1. It peaked in 1996 at 15.08%
iv. 1947-1950 was also characterized by Net Interest > 10% of the budget
1. It peaked in 1948 at 13.82%
2. Due to the Cold War and the Marshall Plan
Interest Payments and Determinants
a. Interest Payments on the Federal Debt
i. 1962-1980 gross interest payments remained between 7-8% of outlays
ii. 1997 gross interest payments reached 18% of outlays
iii. Net interest payments: “the component of gross interest payments that
involves a transfer of funds or real resources from the government to
the public.”
iv. In 2005, 38% of gross interest was paid to foreign owners of U.S.
Treasury debt
b. Determinants of Net Interest Payments
i. Interest rate or yield on U.S. Treasury securities
ii. Level of debt held by the public
iii. Increased rapidly in 1977-1985 along with an interest rate increase
iv. Continued to rise in late 1980s even though interest rates fell because
public debt levels were still rising
v. Increasing public debt by 1% GDP results in 0.02-0.06% increase in
future interest rates
Debt Ownership
a. 2006: Federal Reserve & Government Accounts = 52% ownership
Foreign and international = 25% ownership
b. Top foreign holders of Treasury Securities (June 2004): 1) Japan, 2) Mainland
China, 3) UK
Laffer Curve
a. Graph depicting Tax Rate against Government Revenue
i. Illustrates taxable income elasticity
ii. Used to find the tax rate at which government revenue will be at a
maximum
iii. 0 income at both 0% and 100% tax rate
b. Support
i. Central to supply-side economics
ii. Results of the Kemp-Roth 1981 tax cut
iii. Success of Russian flat tax rates
c. Critique
i. Model assumes uniform tax rates across all income ranges
ii. Does not take economic growth into account
iii. Voodoo economics
VI. (T-G), r, and I
a. Net Fed Government Saving moves inversely with the 10-Year Treasury Rate
b. Net Fed Government Saving moves inversely with the amount of Private Fixed
Investment
c. Crowding Out: a federal deficit decreases the supply of loanable fund, which
increases the market interest rate for loanable funds, thereby crowding out
private investment by decreasing the quantity of funds borrowed.
d. Crowding In: the theory that a large federal deficit accompanied by greater
government spending increases the demand for loanable funds, thereby eliciting
an increase in supply, met by an increase of private investment
e. 1980s Fiscal Policy in Retrospect:
Variable
1970s
1980s
T–G
-2.2
-3.9
S (saving)
19.6
17.4
r (real interest rate)
1.1
6.3
I (investment)
19.9
19.4
VII.
Debt-Trap Equation Revisited
a. Conditions under which the deficit trend may continue
i. Spending sector must sell existing asset holdings to another sector
ii. Spending sector must issue new liabilities to another sector
b. Equation
i. D1/T1 = (1 + i –g)D/T = PFB/T
ii. Future Debt/Income Ratio = (1 + interest rate – income growth rate) x
Current Debt/Income Ratio – Primary Financial Balance/Income Ratio
c. Conditions under which private sector deficits may be sustained
i. Long-run growth of private sector income must exceed the avg interest
rate on the debt owed by the sector
ii. Primary financial balance – excluding interest expense – must be in
surplus
iii. If assets appreciate enough, growth in collateral values & capital gains
will be sufficient enough to service existing debts
Lecture 5: Corporate Debt
I.
Facts Regarding Corporate Indebtedness
a. Trends
i. Interest payments as a % of cash flow: 4% in 1950s, 15.9% in 1985
ii. Ratio of corporate debt to GDP: 0.65 from 1950-1979, 1.04 from 19801990, 1.17 as of Q2 2007
iii. Corporate America holds more cash on hand, to the detriment of
workers
iv. Increase in foreign investment
v. Corporate balance sheet’s are improving
vi. There have been more share repurchases – buying back stock with
borrowed money
b. Levels
i. In 2006, greater than $5.7trillion in debt outstanding, up from $906bill
in 1980
ii. Corporations are borrowing to repurchase stock and hold more
leveraged positions
1. Corporations are currently repurchasing $770bill more than
they are issuing
II. Explanations
a. Tax Considerations
i. There is a deduction for interest payments on loans, but no such
corresponding deduction for equity
b. Power of Leveraging
i. Return on investment is greater
ii. Equity dilutes returns especially during high inflation
c. M&A and LBO craze
i. Corporate culture embraced debt financing
ii. Financial markets became more sophisticated
d. Inflation
i. If inflation is high the nominal interest rate increases
ii. Corporations get to deduct nominal interest payments
e. Speculative Market Bubble – late 90s & 2000s
III. Ramifications
a. Companies reduce their spending by decreasing their workforce, freezing wages,
or using more part-time labor
Lecture 6: The Market for Loanable Funds
GDP = C + G + Investment + (X-M)
Although I only equals about 15% of GDP, changes in I account for at least 2/3 of
changes in GDP
Investment Trends: Investment as a fraction of GDP has decreased over time
o I as a share of GDP was ~14% lower in 2003 than in 2000
o 1996-2000:
I grew at average annual rate of +8.9%
o 2000-2003:
I grew at average annual rate of -1.8%
Possible Explanations for decreasing investment:
I. Supply of Loanable Funds :
o Argument: Anemic rate of personal saving  fall in supply of loanable funds
o Counter-Argument: Most commonly cited personal savings rate data
disregards the accumulation of capital in pension funds, thus overlooking
Labor Capital’s sizeable boost to the investment sector.
 Significant portion of country’s capital stock comes from U.S. workers
via pension funds, which have increased in volume due to
implementation and institutionalization of pension plans at U.S.
firms increase in the “labor” supply of loanable funds.
 Growth real private pension fund assets (2001) $4.0 trillion from
(1990) $1.7 TN
II. Demand for Loanable Funds:
o Demand curve for L.F. difficult to estimate—how do we measure marginal
efficiency of capital?
o How do we measure “animal spirits” (Keynes: animal spirits are a particular sort
of confidence, "naive optimism".)?  use CEO Confidence Survey as a proxy for
“animal spirits”
o CEO Confidence Survey: Survey of ~100 CEOs used as a statistic for
assessing shifts in the demand for loanable funds in the U.S. economy
o Positive correlation between CEO Confidence and Interest Rates: An increase
in CEO sentiment shifts out the demand for loanable funds, increasing the
total quantity of investment and raising the real interest rate.
o This relationship is consistent with prediction that increase in CEO
confidence should cause the demand for loanable funds to shift out,
raising the total level of capital investment in the U.S. economy. Thus
CEO Confidence is a good indicator of movements in demand curve
for L.F. (increase CEO  outward shift in demand curve; decrease
CEO confidence  inward shift of demand curve)
Conclusions:
o Changes in investment account for large % of changes in GDP
o On supply side: rise of Labor’s Capital has somewhat compensated for decline in
personal and public savings.
o On demand side: Conference Board’s Measure of Business Confidence as proxy
for “animal spirits”
Indebted Society: Both supply and demand factors that we identified can be heavily
influenced by debt!
LECTURE NOTES 9
Wednesday, October 24, 2007: Leveraged Buy-Outs (Dubilier & Co.)
 Homeowner: you treat a house differently if you rent vs. own;
 If you use more efficient capital structures, you make higher returns
 LBOs: people were looking for asset-rich companies; banks would then layer in
debt based upon assets
o Mezzanine debt on top – long term debt with 1) very onerous stipulations
and 2) early redemption fee; 3) highly illiquid because it wasn’t freely
traded
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Michael Milkin: he created Junk Bonds – he would look at the bond listings of
“Fallen Angels” to B or BB; you would earn much higher returns
o He started issuing bonds for growth companies
o Started the second phase of PE where parts of the companies were more
valuable than the whole (it would trade at the company multiple) –
ARBITRAGE
o 2) making company more connected/responsive to shareholders
(accountability)
Third Phase: operational phase – renters treat companies differently than owners;
LBO started working on operational improvements to deliver value (5-10%
difference in top performers as compared to low performers) => what’s the most
efficient way to run a particular company
o Heighten equity stake with options so that you would make a ton of
money
o Internal return of 30% each year; double EBITDA every two years
World has now become a more competitive place, global economy – automotive
industry (they used to be captives, had to get out of their suppliers)
o What causes this to occur: accountability to shareholders and competition
from Japan
o What indigenous thing pushed us to this high level of competitiveness –
China forced us to find new ways to source things
 Trade unions – influenced efficiency/productivity; profitability
How does the current Macro environment affect LBO structuring and success?
o A lot of the operational changes made was pushed for by the market
o More efficient capital structures from
o 2) living in low-inflationary environment: better to be borrower in lowinflationary (has dampened returns for companies)
o 3) probably over 100 firms that are putting billions of dollars chasing them
same opportunity sets
 Some are Club Deals: being public is getting harder; companies are
much more efficiently managed; large firms getting together to buy
other companies; eliminate other bidders for companies; driving
down prices and competition => direct response to SarbannesOxley
 A lot of managers getting paid a TON compared to others – getting
even worse; a lot of managers striving to be public so you don’t
have the scrutiny
 Market multiplier effect: LBOs took place in largest bull market in
US history (6x EBITDA and then market sells at 8x EBITDA) –
there’s not much you need to do; this isn’t the case now
 Now the era is one of good corporate governance: PE forced
accountability and now the companies are reporting better…
CDO: put a small amount of equity and getting a bit of debt; interest component
to one institution
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o More volatility in capital markets – such a complex web; a lot of liquidity
because there is a lot of cash around but everyone is scared because they
don’t know where all the liabilities lie
 Some companies are renegotiating mortgages so that they get
interest payments to keep income streams
Certain funds have 1) geographic advantage, 2) industry specialists, 3) go to
places around the world where there’s not as much penetration
o Smaller players: taking control of much smaller businesses where they can
still make a difference; rich people have retired and their families don’t
know how to run them
 This deal flow is much more robust than other companies
What will be the next LBO revolution?
Carried interest concept: actually made to be less onerous in tax system;
Blackstone going public – carried interest and management fees put under
“capital gains” tax system
Case Studies: operational improvement doesn’t necessarily mean downsizing
(could be the opposite)
o Can company: making use of incentives to get a floor operating more
efficiently
o World is moving more towards niche markets
End to favorable tax fees & relaxation of S-O – movement towards more liquid market
 Everyone is chasing yield and trying to get above-market returns
 “Perfect Storm”
 People find creative ways to get returns in these environments
IPOs of larger firms will affect this market?
Is it a question of liquidity or greed? – he says greed
LECTURE 10
Yield Curve Lecture
Bloomberg definition: Yield curve a chart consisting of the yields of bonds of the
same quality but different maturities. This can be used as a gauge to evaluate the future
of interest rates.
 Upward trend with short-term rates lower than long-ter rates  POSITIVE YIELD
CURVE
 Downward trend is called a negative or inverted yield curve
Importance of Yield Curve
- Gives term cost of money (before credit risk)
- Provides discount rates for future expected cash flows
- Basis for pricing fixed-income securities and valuing all debt
- Real-time market driven phenomenon
Yield Curve Shape
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Determines profitability of borrowing short and lending long
Reflects the tradeoff between yield and volatility in market
Anticipating shape changes is key to many hedge fund and other investment
strategies
Example: Butterfly Trade
o Investors who want to sell rich securities or buy cheap securities and
maintain their portfolio durations often employ butterfly trades.
o Uses three securities of different durations.
o The shortest- and longest-duration instruments are the wings; the
middle-duration instrument is the body.
Curve Changes Patterns
1) Parallel shift (Level) 75 % of bond price change2) Steepness shift -15 %
3) Curvature shift- 5%
What changes the yield curve?
-Changes in term distribution of the supply and demand for money (lending and
borrowing activity)
- Federal Reserve, Inflation expectations, Volatility, Oil prices, Arbitrage
Examples that have changed curve in the past
-Fed raises fund rate 17 times curve flattens
-Stock market crash 87 parallel shift down
- Russia defaults on debt 98  curve becomes inverted
- Saudi Arabia frees up price of oil slope becomes less steep and parallel shift
down
Forecasting Yield Curve
-Traditional approaches
o Mean reversion
o Fed watching
o Matching curve shape to economic environment
o Forecasting inflation
- Macroeconomic analysis combined with pattern recognition of short term
variables
o Atlantic Asset Management Modelmacroeconomic analysis of labor and
capital markets combined with pattern recognition of short-term variables,
equilibrium level for real rates, cyclical variables lead to forecasting
changes in long term rates – accurate predictor 2/3 of time
- Alternatives to yield curve
o Treasury Coupon Curve, Treasury Spot Curve, Treasury Forward Curve
o most important alternative by far: LIBOR (London Inter-Bank Offered
Rate) is the fixed rate at each maturity that can be exchanged for a
floating rate – it is what we use to buy our bonds today
Conclusion
- Yield curve most important factor in capital markets and economy.
- Fed tries to manage it and everyone tries to forecast it
- Everyone is affected
- Is watched on minute to minute basis
Lecture 12: The Subprime Fiasco:
- Subprime only 12% of residential mortgage market
- Ratings agencies were the weakest link, didn’t pay attention to economics, overly
optimistic in ratings
- Traditionally, required 80% loan-to-value (ltv) mortgage so marginal risk of
losses if foreclosed; recently, ltv ratio over 100% (taking out loans greater than
actual value)
- Crisis largely due to three things:
o Those who took the risk weren’t those who originated mortgages
(originators pooled mortgages and sold them off almost immediately; less
concerned about ultimate performance)
o Buys of subprime MBS over-relied on what ratings agencies said (and
they were overly optimistic)
o Ratings agencies were wrong; assumed little correlation across housing
markets, assumed market couldn’t get that bad, overly optimistic towards
these new forms of mortgages
- Rapid growth in subprime mortgage lending and high profits led to increased
competition to issue mortgages (quantity over quality)
- Lowering of standards in quality of loans, invention of products like teaser rates
and interest only to entice mortgage borrowers
- Subprime mortgage defaults will probably continue on for next two years
- Pool divided into tranches by type (AAA and down); lower tranches, e.g. which
have 5% of capital structure below, feel losses if more than 5% loss rate
- Ratings agencies thought little correlation across markets so divided up lowest
tranches again (taking the risky mortgages, carving out and structuring risk again;
but found out that all affected by problems)
- Don’t know where the risks are, less confidence in ratings agencies so less value
put on securities in general
Lecture 13: The U.S. Workforce:
- Can’t infer too much from unemployment rate, need to look at other factors
- The labor force: # individuals employed + # individuals unemployed
- Unemployment rate = # individuals employed / labor force
- Employment growth rate: growth in payroll employment from establishment
survey
o If employment growth rate kept rate with population growth, would have
generated more jobs than it did; possible employment slack
- Normalized Help-Wanted Index: from Conference Board, counts amount of
advertising there is for jobs (amount of advertising / amount of employment)
o Tells the demand for labor, stronger NWHI means greater need for jobs
o On the decline
- Unemployment rate in steady-state: U = F x C (u = monthly unemployment rate,
f = monthly flow of jobless labor force members as percent of labor force, c =
average completed spell of unemployed worker)
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o Can either have a lot of turnover (lots of short unemployment) or longer
term unemployment (less, but longer); shorter terms of unemployment
means a better labor market; currently weak labor market
o If majority of unemployment due to job leavers, then more inflationary
pressures because looking for higher paying jobs (also shorter spells of
unemployment); recent movement from job leavers (1960’s) to job losers
o % of temporary unemployment (poor wages, no benefits) has grown
dramatically
Duration of a spell of unemployment (if rising then economy is getting worse)
o Average duration of unemployment more that doubled 1967-2006 (from
8.7 to 16.8 weeks) so despite growth in employment labor market is
getting weaker
o Strong correlation in rising duration of unemployment with increased
wage dispersion (market discerning high quality and low quality worker)
Underemployment (underemployed from where should be based on education,
skill, etc.)
o On the rise, as is temporary employment
Current state of the labor market, many jobs are disappearing, labor market weak
Lecture 15: EEO & Discrimination in the IS
o Number of elderly persons per 100 persons of working age (65) has increased
o Prime age workforce (25-54) will decrease while elderly increase since 2000 by 50%
o Age stereotypes: elderly less interested, less capable, more expensive to employ, harder
to train, etc.
o Hazen Paper Company vs. Biggins
 The Plaintiff had to prove he was treated differently because of his status in the
protected group.
 Desperate Treatment: employer treats some people less favorably than others
because of their race, color, religion, etc. REQUIRES INTENT
 Desperate Impact: employment practices that are neutral in their treatment of
different groups but that fall more harshly on one group than another and can’t be
justified by business necessity. DOESN’T REQUIRE INTENT
o You have a policy that seems to be neutral, but can be shown to have a
disparate impact on the protected class that allows you to better achieve
business goals. You are purposely not taking a better option that is easily
avoidable.
o Supreme Court still hasn’t decided if desperate impact is covered under
ADEA
o Want to eliminate people will high (bad) price:productivity ratio => higher paid people:
contributing less to bottom line.
o Peter Principle: More junior people are as productive. As long as you are well and
competent, you will get promoted. Ex) 3rd grader is old, but doesn’t mean he is smartest.
o Older white males are first to be fired. Not women because women are paid less
These readings were 4 pages each, so if there is any confusion, please see the readings.
Lecture 16 Bankruptcy Law
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Guest lecture: Kit Ekman
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In last few years, bankruptcy laws make wiping slate clean of debt very difficult.
Only law on bankruptcy is federal in nature. Federal law regulates both corporate
and personal bankruptcy, but lecture concentrates only on personal bankruptcy.
Mechanics: go to a federal bankruptcy court, file petition (usually w/ lawyer) that
lists all assets and debts. Bankruptcy judge (appointed to serve set years)
oversees administration of bankruptcy and determines which assets are used to
pay which debts. Then discharged from bankruptcy.
Once in extreme debt, creditors may sue in different courts all over the country.
Because you may not have assets to go around, creditors will scramble to collect
on debt and the various judges may not be able to determine ability to pay.
Bankruptcy law aggregates and brings order to this entire process. Protects
interest of creditors and court system, as well as provide safety net for consumers.
{PRE-2005} Congress passed Chapter 7 and Chapter 13 as two different remedies
to consumers.
CHAPTER 7
 Chapter 7 allows for liquidation. Most of your debt is wiped out: if
creditors are garnishing wages, collecting on assets, freezing savings account,
etc. must stop.
 Debtor gets a fresh start. Even if you make large future earnings postChapter 7, creditors have no claim.
 By signing up for Chapter 7, certain assets are liquidated to pay a fraction
of the debt to creditors. Specific assets are varied by state. After court
expenses and government debts get paid, judge determines how it’s dispersed
to other creditors.
 Creditors hate Chapter 7. For consumers, slate is cleaned but it is public
record and credit rating drops. Can petition only once every 6 years.
 Example: OJ Simpson bought a gigantic house before filing bankruptcy
because his state had a homestead exemption.
CHAPTER 13
 Chapter 13 is a reorganization process. No fresh start/liquidation. Keep
assets, and with bankruptcy court, make a payment schedule of 3-5 years
on your future earnings. If consumer adheres to payment schedule,
remaining debt is discharged. If not, remaining debt stays on record.
 Creditor gets higher payment percentage than Chapter 13. Once every 6
months.
 Super discharge provision: instead of paying off loan on car, only owe
current market value.
70% bankruptcy files were Chapter 7. Many paid minimal to creditors. During
Indebted Society, number of bankruptcy filing has sky-rocketed.
Older people were hit particularly hard by the Indebted Society, so number of
bankruptcy filed by people older than 45 increased drastically by 2005.
Average bankruptcy filer has $25,000 in credit card debt.
Credit card companies used about a hundred million dollars to lobby bankruptcy
reform. In 2005 the statute called the Bankruptcy Abuse Prevention & Consumer
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Protection Act was passed. 600,000 filed bankruptcy right before the act when
into effect.
Changes
 Must complete credit counseling course (need to pay, and takes time).
 More red tape (higher court fees, more applications, etc)
 Means test to gauge financial means and income. If over a particular
amount, not allowed to file Chapter 7. (ie if gross income is higher than
state mean than not allowed).
 Chapter 13 is less attractive: payment plans are must be 5 years. Super
discharge is wiped out. Owe original amount of loan, not present marketadjusted amount.
 Bankruptcy lawyer are personally liable if petition is misleading in
anyway. Higher legal fees due to risk.
 Homestead exemption: unless lived/owned house for over 3 years,
exemption maxes out at $120,000.
At a time where consumers are facing most difficult debt burdens yet, consumer
protection is not available. Fraud is a small percent and most people filing are
actually in trouble.
Post-2005, filings have dropped by almost 2/3, and more of the filings are Chapter
13. Experts think it will eventually settle to 50/50 between Chapter 7 and Chapter
13.
Should bankruptcy punish debtors or help creditors maximize on dollars loaned?
Should bankruptcy protect consumers or punish them for their consumption?
Lecture 17
Beveridge Curve and the NAIRU
Definition
A Beveridge curve is a graphical representation of the
relationship between unemployment and the job
vacancy rate (the number of unfilled jobs expressed as
a proportion of the labor force). It typically has
vacancies on the vertical axis and unemployment on the
horizontal; it slopes downwards as a higher rate of
unemployment normally occurs with a lower rate of
vacancies. The curve for US uses the National Help
Wanted Index (NHWI) on the vertical axis and the
unemployment rate on the horizontal axis.
Movements Along vs. Shifts in the Curves
If it moves outwards over time, then a given level of vacancies would be associated with
higher and higher levels of unemployment, which would imply decreasing efficiency in
the labor market. Inefficient labor markets are due to mismatches between available jobs
and the unemployed and an immobile labor force.
The deal is that we are looking out for inflationary points, because the entire relevance to
this is that it may be possible to have a low unemployment rate without raising inflation.
This is important because it expands of conventional Philips curve assessment, because
unemployment really only affects inflation indirectly through vacancy rate.
In the 50's / 60's, there was a lower Beveridge curve, then a shift outward in the 70's/80's, and
now we have a LARGE shift inward for 90's/2000's. Prof Medoff believe this is because of
corporate downsizing and debt problems. But it also could be explained by regional
employment rigidities, showing where lots of employees are in the wrong location, who can’t
get matched up to the jobs they want (70's 80's).
Lecture 19: “Some Final Thoughts” – December 12, 2007
I.
This lecture didn’t yield many specific facts to be learned, but mainly focused
on discussion of policy and the course.
II.
Policy
a. Read “Reshaping the debate on raising taxes.” Really we need to ignore
the anti-tax rhetoric that helped get us into this mess and foster a rational
discussion of limiting spending and raising taxes.
b. Americans are in a vulnerable position. They are worried about the future
because of their stagnant incomes, and are looking for something to
blame. Politicians jump on the bandwagon, blaming the problems on “big
government,” but that argument makes the situation worse. We really
need better-targeted spending, and less government debt.
III.
The course
a. Vicious circles.
i. See the vicious circle diagrams in the book. They’re basically all
you need to ace this exam.
1. Corporate debt, page 144.
2. Savings a growth, page 148.