Scandinavian Working Papers in Economics

Discussion Paper Series in Economics,
Norwegian School of Economics, Department of Economics

No 17/2015: Fairness in bankruptcy situations: an experimental study.

Alexander W. Cappelen (), Roland I. Luttens (), Erik Ø. Sørensen () and Bertil Tungodden ()
Additional contact information
Alexander W. Cappelen: Dept. of Economics, Norwegian School of Economics and Business Administration, Postal: NHH , Department of Economics, Helleveien 30, N-5045 Bergen, Norway
Roland I. Luttens: Amsterdam University College, Postal: Amsterdam University College, Science Park 113, 1098 XG Amsterdam, The Netherlands
Erik Ø. Sørensen: Dept. of Economics, Norwegian School of Economics and Business Administration, Postal: NHH , Department of Economics, Helleveien 30, N-5045 Bergen, Norway
Bertil Tungodden: Dept. of Economics, Norwegian School of Economics and Business Administration, Postal: NHH , Department of Economics, Helleveien 30, N-5045 Bergen, Norway

Abstract: The pari passu principle is the most prominent principle in the law of insolvency. We report from a lab experiment designed to study whether People find this principle a fair solution to the bankruptcy problem. The experimental design generates situations where participants work and accumulate claims in firms, some of which subsequently go bankrupt. Third-party arbitrators are randomly assigned to determine how the liquidation value of the bankrupt firms should be distributed between claimants. Our main finding is that there is a striking support for the pari passu principle of awarding claimants proportionally to their pre-insolvency claims. We estimate a random utility model that allows for the arbitrators to differ in what they consider a fair solution to the bankruptcy problem and find that about 85 percent of the participants endorse the proportional rule. We also find that a non-negligible fraction of the arbitrators follow the constrained equal losses rule, while there is almost no support in our experiment for the constrained equal awards rule or other fairness rules suggested in the normative literature. Finally, we show that the estimated random utility model nicely captures the observed arbitrator behavior, in terms of both the overall distribution of awards and the relationship between awards and claims.

Keywords: Equity; Justice; Bankruptcy; experimental study.

JEL-codes: D63

24 pages, October 6, 2015

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DP%2017%20online-appendixA.pdf PDF-file Appendix A

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