December 1, 2000

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Bankruptcy Pace for Individuals Is Accelerating as Rates Increase By YOCHI J. DREAZEN Staff Reporter of THE WALL STREET JOURNAL

When the nation's bankruptcy rate started to drop last year, John Garza felt the impact almost immediately. Business at his suburban Maryland bankruptcy law firm slowed so much that he was forced to let half of his 15 attorneys go, and several of the survivors quit in frustration over their reduced earnings. Mr. Garza, for his part, had time for other pursuits. "I played a ton a golf," he remembers.

These days, tee times are down and court time is up. The caseload of Mr. Garza's firm rose more than 15% last month alone, leading him to hire a new attorney. "We're like vultures perched on the telephone pole, waiting for the disaster so that we can eat," he says of his firm, which handles both personal and business bankruptcies. "Well, the vultures are about to spread their wings."

With interest rates up and the economy slowing, many households are discovering that their bills for years of torrid spending are coming due just as they are ill prepared to pay them. As a result, growing numbers of Americans are seeking court protection from their creditors. Personal bankruptcies, as measured by a 12-week moving average of filings, have increased nearly 10% since January. The moving average hit 24,288 for the week ending Nov. 4, up from 22,291 in the week ending Jan. 1, according to data from Visa.

Extended over an entire year, that pace would translate into about 1.26 million personal bankruptcy filings, a notch lower than the 1.28 million filings recorded last year. Indeed, after rising steadily for most of the past decade, personal bankruptcies fell in 1999 amid low interest rates and solid wage gains associated with the nation's ultratight labor market.

But what concerns many analysts is that the pace of bankruptcies appears to be accelerating. SMR Research Corp., a consumer-debt research firm in Hackettstown, N.J., estimates that bankruptcy filings will rise as much as 15% next year, easily surpassing 1998's record 1.4 million filings.

"We've just finished one of the plateau periods for bankruptcies, which hit a peak in 1998 and then fell a bit," says SMR President Stuart Feldstein. "But now that we've caught our breath, they're about to go way up again. We're on the verge of another flood."

If the projections hold up, an increase of that size would probably bolster congressional efforts to tighten the nation's Bankruptcy Code. Legislation making it harder for Americans to discharge their debts passed the House this year but got tangled up in partisan wrangling in the Senate. Supporters have promised to try again next year.

Bankruptcy takes a heavy human toll, and many of those who seek protection from their debts see it as a humiliating admission of failure. But the economic costs can also be substantial. Creditor losses from debts erased by bankruptcy run into the tens of billions of dollars each year. The filings, meanwhile, may be the harbinger of a significant slowdown in consumer spending that could make a "soft landing" for the U.S. economy nearly impossible.

Here's why: The consumer-spending binge of the early 1990s was built on a fragile foundation of massive household borrowing, so for spending to keep pace going forward, borrowing would have to continue to increase as well. But the current increase in the number of bankruptcies means that many households are having a hard time repaying existing debts, suggesting they'll be far less eager to amass new ones. And with Americans already spending every dollar they earn, a reluctance to borrow more money means the pace of consumer spending can only slow, serving as a significant drag on the broader economy.

Thursday, a new government report on personal income suggested that consumer spending will advance at an annual rate of just 3% this quarter, far slower than the 4.5% pace recorded a quarter earlier. The weaker pace could easily translate into a relatively weak holiday season for the nation's retailers.

Micole Farley, a 25-year-old single mother from Houston, will be one of those doing a lot less shopping this holiday season. As a teenager in the early 1990s, she was surprised to find herself quickly approved for numerous credit cards, part of the seemingly endless stream of easy credit that continues to wash over many Americans. (With credit plentiful, consumers owed $591 billion in revolving credit debt in 1999, nearly double the $276.8 billion in debt amassed in 1992.)

Young and in love, Ms. Farley had run up $1,500 in credit-card debts by 1994, buying clothing, shoes and housewares for herself and her then-boyfriend. When she got pregnant and had to quit her job a short time later, though, Ms. Farley watched with alarm as finance charges and high interest rates sent her bills spiraling higher. By 1999, she was divorced and the debt had ballooned to nearly $5,000.

"I just can't afford to shop like I used to," says Ms. Farley, who's trying to avoid bankruptcy. "I have enough bills as it is."

Although many households are struggling to repay their debts, low-income Americans have been among the first to feel the strain. About 10% of households making less than $50,000 were more than 60 days late on at least one loan payment, a recent survey showed, compared with less than 4% of the families earning more than that amount. With the labor market easing, moreover, it's becoming harder for low-income Americans to work the extra hours or second jobs needed to earn the money to repay their debts.

Americans are also feeling the sting of higher interest rates. The Federal Reserve has increased them six times since June 1999 in an effort to cool the economy. Mr. Feldstein argues that the number of bankruptcy filings has actually been increasing relatively steadily since around 1985, with the only exceptions coming immediately after periods in which interest rates fell sharply, reducing the cost of borrowing money. When the Fed cut interest rates in 1998 in the wake of the Asian currency crisis, for example, bankruptcies dutifully fell a year later.

"Interest rates quell the bankruptcy rate temporarily, but when rates go back up, bankruptcies resume their climb," Mr. Feldstein says

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-- Carl Jenkins (somewherepress@aol.com), December 03, 2000