How the economy influences bankruptcy and vice versa.

• Author: Hoyes, J. Doug

Individuals file for bankruptcy because they are insolvent. Being insolvent means that they owe more than they own, or do not have the ability to repay their debts as they become due. While the underlying factor is debt, what can cause an individual person to become insolvent is often an unexpected life event like a job loss, illness or relationship breakdown.

These personal life events can occur at any time, and as a result there is a base bankruptcy or insolvency rate among Canadians regardless of how well the economy is performing. Over a lifetime, roughly 1 in 6 adult Canadians will declare bankruptcy or a consumer proposal. This rate will vary from time to time, but overall there will always be an underlying level of bankruptcies in the economy.

The annual consumer insolvency rate in Canada in 2015 was 4.3 persons for every 1,000 Canadians, roughly equivalent to the average rate of insolvency experience in Canada over the past 20 years. There are, however, significant swings in this rate that roughly follow economic cycles.

Bankruptcy and the unemployment rate

Unsurprisingly, a growth in the overall insolvency rate reflects a corresponding increase in the unemployment rate. We saw this with the recent increase in insolvency filings in Alberta and Saskatchewan. All oil-dependent provinces, including provinces who sent significant workers to work in the energy-sector in other provinces, saw an increase in bankruptcies as the oil-based economies experienced a downturn.

Having said that, there is not a direct correlation between unemployment and the number of people filing bankruptcy. To understand this, we once again have to look at the individual level. When individuals lose their jobs, the may initially survive on savings. Eventually that runs out and they turn to credit to make ends meet until they can return to work. Once they find a new job, they now find that their debt levels, old debt combined with new, have risen to an amount that they cannot support on their new pay. It's a cycle that for some can only be broken by filing bankruptcy.

It is for this reason that we often see the number of bankruptcies continuing to rise, even after the economy improves and people return to work. That is why we saw the insolvency rate in Canada peak at 5.8 per 1000 in 2009, after the financial crisis began and it remained well above normal through 2010.

Household debt risk factors

As we noted at the beginning, the reason people file bankruptcy is...