Personal bankruptcy is no longer an unusual phenomenon. Personal bankruptcy filings have risen over 500% in the last two decades and there were over 1 million filings in 1996 alone. Moreover, these filing statistics may in fact understate the importance of personal bankruptcy as many more debtors may implicitly use the threat of filing to evade collection efforts by their creditors; it is default and not necessarily bankruptcy which creates losses for creditors (see White and Petropolous (1996)).
Confidence in the stability of the banking sector is crucial element for well-functioning financial markets. The fallout from the 2008 subprime crisis has led to decreased confidence in financial institutions. Indeed, 2008 saw old-fashioned bank runs with depositors lined up outside the doors of institutions like Indy Mac in the United States and Northern Rock in the United Kingdom hoping to withdraw their savings from those failing institutions. Speaking on the government’s response to the U.S. banking crisis in late February and early March of 1933, President Franklin Roosevelt stressed “there is an element in the readjustment of our financial system more important than currency, more important than gold, and that is the confidence of the people.” His words remain relevant today.
Increased confidence in the banking sector can promote recovery and increase the perceived credibility of post-crisis reforms. However, “crises leave citizens wary of entrusting their savings to the official banking sector. This diversion of savings is likely one of the great and unmeasured costs of banking crises” (Gerard Caprio, World Bank, 2005). Measuring the impact of a crisis on investor confidence is complicated by the fact the difficulty of disentangling whether financial decisions change due to decreased confidence or because of decreased wealth and income as a result of the crisis.
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