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European Journal of Law and Economics

, Volume 33, Issue 1, pp 205–229 | Cite as

An experimental investigation on optimal bankruptcy laws

  • Daniela Di Cagno
  • Marco SpalloneEmail author
Article
  • 168 Downloads

Abstract

We performed an experimental investigation to assess whether the “restricted auction” mechanism proposed by Berkovitch, Israel and Zender in 1997 works effectively as an optimal bankruptcy law or not. An optimal bankruptcy law is a commitment device that implements efficient choices both before (ex ante) and after (ex post) financial distress, even if moral hazard is binding. We designed an experiment focused on ex ante efficiency and we found that the restricted auction mechanism was able to direct an optimal amount of effort toward entrepreneurial activities. This result confirms the theoretical predictions. Nonetheless, we found that under a plain unrestricted auction mechanism our experimental subjects chose to allocate into their firms a larger amount of effort than that predicted by theory. Although difficult to justify on theoretical grounds, this experimental evidence is robust. Our behavioral interpretation is that this result is due to “moral sentiments”, such as the natural propensity of subjects toward socially desirable behaviors. In fact, we show that it vanishes once these motives are removed.

Keywords

Bankruptcy Laws Optimal Incentives Experimental Evidence 

JEL Classification

C7 C9 K0 

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Copyright information

© Springer Science+Business Media, LLC 2010

Authors and Affiliations

  1. 1.Luiss-Guido Carli University of RomeRome,Italy
  2. 2.G. D’Annunzio University of PescaraPescara,Italy

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