Risky College Investment under Alternative Bankruptcy Regimes for Student Loans

I consider the implications of alternative bankruptcy regimes for student loans in a heterogeneous model of life-cycle earnings and risky human capital accumulation. Findings suggest that the ability level of high-school graduates drives the decision to enroll in college, while the initial human capital level is crucial for completing college. Also, the correlation between parental wealth and ability and human capital stock is key in delivering enrollment and completion rates across income groups consistent with empirical findings. The model delivers higher college enrollment, dropout, and default rates when loans can be discharged. Under liquidation, financially constrained borrowers choose to default, whereas under reorganization borrowers default for other reasons rather than financial constraints. Dischargeability benefits college dropouts and students with low assets. It induces more human capital accumulation over the life-cycle relative to the reorganization regime. JEL classification: D91; G33; I22