Socio-economic framework for the design of national household insolvency systems

Lessons learned in the aftermath of the Financial Crisis of 2008 include that long, punitive household insolvency regimes have a negative societal impact, increase the potential for financial instability and hamper national economic recovery. We propose the Socio-Economic Framework for Household Insolvency System Design as a regulatory mechanism that aims to control national household debt and productivity levels. The system facilitates an informal resolution of the conflict between over-indebted households and their creditors. When this is not possible, the system grants immediate relief to no-income, no-assets, and ‘honest’ households, that experienced over-indebtedness because of an external negative shock, such as a medical emergency. Finally, when the household does not qualify for immediate relief, the system allocates the costs of insolvency between the household and creditors, based on responsibility for the over-indebtedness. This reduces moral hazard.