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A Bankruptcy Boom Cometh

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  • A Bankruptcy Boom Cometh

    A Bankruptcy Boom Cometh (subscription)
    January 2, 2006 (Forbes)

    Most experts expect the default rate to rise in 2007, reaching 2.5% to 3% at the end of the year. That still won’t be a boom by historic standards, but it will feel like one compared with the bankruptcy holiday that defined 2006. The following year, however, is a different story.

    Ross expects default rates to rise as high as 7% or 8% in 2008, and many restructuring experts agree. "I think when [a correction] comes, and it is coming, it's going to be a big one,” says Jay Goffman, a partner in the corporate restructuring department at law firm Skadden Arps.

    The reason: Instead of going bankrupt with a sniffle, bad companies have been taking on extra leverage. Some of them might use that cash to fix fundamental problems. But others are just building themselves a larger tower of debt, so they’ll have farther to fall.

    "A lot of people aren't fixing the problems they have with their businesses,” says Ingrid Bagby, a partner with law firm Cadwalader, Wickersham & Taft. “They're just fixing their liquidity problems."

    When they finally do file for bankruptcy, they may be in for a surprise. The same 2005 law that made it difficult for individuals to file for bankruptcy will hurt corporate filers as well. The process is now more difficult and more expensive, Goffman says. Companies now need more cash to pay vendors and utilities, and they have to pay taxes in five years instead of six.

    AntiSpin: How to square this story with this one from today's Wall Street Journal headline piece that states "Economy Poised For '07 Rebound, Forecasters Say"?

    The article goes on:
    The U.S. economy is poised to shake off the housing slump and regain momentum by the end of this year, and the credit goes to techies, bankers, chefs and shoppers, according to a Wall Street Journal survey of economists.

    The panel of 60 economists who participated in the Journal's latest semiannual economic forecasting survey offered an optimistic outlook for 2007: The service sector should keep humming along as the recent weakness in housing and manufacturing abates and the Federal Reserve begins to reduce interest rates. That would allow the economy to expand at a rate fast enough to keep investors happy, but slow enough to keep inflation at bay.

    The consensus economists are giving themselves some wiggle room in case downside risks express themselves as recession:
    Most forecasters expect 2007 to be a good -- not great -- year for the economy. While six in 10 said they think the worst of the housing downturn's impact on the broader economy had passed, they still see a deeper housing slump as the biggest risk looming over the economy. That concern was reflected in the odds they placed on a recession in the next 12 months, which rose to 27% from 20% in June.

    More so than in recent surveys, forecasters differ on the economic outlook. One measure of their disagreement -- the standard deviation of their forecasts for inflation-adjusted GDP for the coming half year -- widened to about 0.7 percentage point in December, up from a 20-year low of 0.5 percentage point in June. Each of the past two recessions have been preceded by sharp increases in the deviation measure -- to levels greater than one.

    Ian Shepherdson, chief U.S. economist at consulting firm High Frequency Economics and one of the survey's most pessimistic forecasters, places the odds of a recession at one in two. He believes that home construction still has a long way to fall before it levels off with demand, and that the Fed's rate increases, which helped push corporate borrowing costs upward by about a full percentage point between fall 2005 and spring 2006, have yet to take their full toll on business activity. Mr. Shepherdson expects real GDP to grow at an annual rate of 0.5% in the first half of 2007 and 2.25% in the second half.

    "It's going to be worse than the consensus expects," he says. "My guess is that we'll probably avoid a recession, but by the skin of our teeth."
    Shepherdson's view is closer to the consensus opinion of our panel of nine economists, interviewed by iTulip's Jane Burns. While they don't see the end of the world, they are less sanguine about prospects for firms and households that have been using ready access to credit to pay the bills versus improve their "business models." The series will be posed this week.

  • #2
    Re: A Bankruptcy Boom Cometh

    Now, if I remember my monetary supply rudimentary education correctly, if debts are wiped out, that decreases the money supply. If a bankruptcy boom occurs, will that lead to a 43% deflation Aaron Krowne stated would be possible? There would also be less people able to spend all that money with their debt ratings trashed...

    That is, of course, if they all started new companies and were able to gain access to continued easy credit...


    • #3
      Re: A Bankruptcy Boom Cometh

      A bankruptcy boom is just the kind of outward sign that a "wave of excessive credit and debt" would collapse contemporaneously with. Whether you call it the "cause" or "effect" is academic... bankruptcies will rise when the "running faster to keep from falling over" economy runs out of steam (or trips), and these bankruptcies will make credit more expensive, accelerating the correction process.

      Anyway, the consensus opinion sure is a thing to behold. It would be really incomprehensible if one didn't remember that people are emotionally still just apes, and will continue to deny reality to appease each other, as long as reality hasn't yet forced them to do otherwise.


      • #4
        Re: A Bankruptcy Boom Cometh

        Originally posted by akrowne
        Anyway, the consensus opinion sure is a thing to behold. It would be really incomprehensible if one didn't remember that people are emotionally still just apes, and will continue to deny reality to appease each other, as long as reality hasn't yet forced them to do otherwise.
        there are material rewards as well as social-emotional rewards for being in the consensus. intellectual honesty isn't worth much to most people compared to big paychecks and bonuses from wall street firms interested in marketing their products.