Why Do We Have “Bankruptcy”?

Why is there  a bankruptcy process?  Doesn’t it give people a disincentive to repay debts that they really should pay?  Why would Congress go out of its way to create a law that lets people get out of their contractual obligations to make payment?  What’s with this whole “free-pass” thing?

First, the concept of bankruptcy and debt forgiveness actually has its roots in the Old Testament in Deuteronomy 15:2.  The Bible says it is to be granted every 7 years.  Additionally, bankruptcy is specifically mentioned and acknowledged to be an important part of a democratic society in the U.S. Constitution.

Second, bankruptcy is a necessary “escape hatch” for a well-functioning capitalist economy.  The existence of a safety net is what enables and encourages people to take the kinds of economic, investment and career risks that lead to innovation and progress from which we all benefit.  And if there’s one thing that continues to make America the strongest economy in the world, it’s innovation and risk-taking.

The alternative is to keep people in debtor’s prison.  Or let them suffer under a debt burden that they can never overcome.  In the big picture, it’s better to have people continuing to be productive rather than locked away or in a position where they can barely function.

Viewing bankruptcy in this way helps remove the moral stigma.  Bankruptcy is simply a fact of economic life.  Some will succeed.  Others will struggle.  And for the greater good, we need a way to allow people to continue to move forward with their economic lives or else we’ll all bear a more expensive burden.

This is why the U.S. and any successful society has a bankruptcy process.