Bankruptcy resolution capacity and regional economic fluctuations

In this paper we uncover a relationship between regional economic fluctuations and bankruptcy resolution capacity and predict that its direction depends on the cyclicality of bankruptcy. If bankruptcy is countercyclical (procyclical), we predict that economic fluctuations should be more(less) severe in regions with lower judicial capacity. This is because in these regions, bank lending is more sensitive to judicial capacity and shocks that have a countercyclical (procyclical) effect on bankruptcy are amplified (mitigated) by more. We find evidence showing that bankruptcy is countercyclical and that in US states with lower judicial capacity, economic fluctuations are more severe.