Even “active” learning from negative experience resulting from overborrowing is not likely to be particularly effective.  Researchers suggest that, to be effective, “lessons” on the ills of these biases must be immediate and unambiguous, particularly if the causal connection between the risk and the adverse event is complex.   Even if the consequences of overborrowing are severe, consumers are thus exceedingly unlikely to learn from past mistakes with overborrowing.  The ills of overborrowing will by definition occur long after biases and heuristics have driven a consumer to risky borrowing that produces the ill effects.  Such lessons will be neither immediately nor unambiguously tied to the past risky behavior (indeed, they are more likely to be attributed to intervening liquidity problems beyond the consumer’s control). 

Perhaps behavioral economics teaches us that we simply must accept that back-end relief from overindebtedness is the best we can manage.  If front-end restrictions on the supply side of consumer credit are judged inefficient or politically inexpedient, perhaps we just have to accept that cognitive biases will naturally lead to overconsumption of credit by many consumers. 

III.  If Prevention is Possible, Which Kind of Bankruptcy Regime Will Be More Effective?

Whether or not we need formal consumer debt relief is a separate question that Western society seems to be answering in the affirmative.  Country after country in Europe has joined the U.S. in recent years in offering more or less generous relief to consumers unable to meet their credit obligations.   Now the question is what kind of relief system holds the most potential for not only treating but also preventing the problems associated with overindebtedness.  If the biases discussed above can be overcome at the margins, perhaps different types of bankruptcy relief might do so by turning these biases to productive use. 

Behavioral economics suggests that some solutions have the potential to be less or more effective than others in shifting incentives.   Since those who have fallen into the traps of overindebtedness are now ending up in bankruptcy in many countries, that process offers a concentrated source of consumer education for discouraging overly risky borrowing—both by debtors and by others who hear about the process from debtors or the press.  Even if an uncontrollable liquidity crisis leads to bankruptcy in most cases, if the relief process is not too draconian, its structure might combat the biases that contribute to controllable overborrowing and reinforce good attitudes about credit by debtors and non-debtors alike.

Apparently little can be done about hyperbolic discounting, bounded willpower, or the overconfidence bias—and we would not want to dampen consumer confidence too much, given how much modern economies depend on consumer borrowing and spending.  But the bankruptcy system might contribute to making the risks of overborrowing marginally more “available” by increasing the frequency, recency, and salience of information about the costs of overborrowing.