A debtor owes $15,000 to each of 2 creditors, but he only has $25,000. If he defaults
Question:
A debtor owes $15,000 to each of 2 creditors, but he only has $25,000. If he defaults on the debt, he will lose the whole amount , and the legal costs of filing for bankruptcy and the liquidation of his assets will be $15,000, so each of his debtors will collect $5,000. The debtor has his lawyer draw up the following letter which he sends to each of his creditors:
"I hereby offer you $5,100 if you and my other creditor agree to cancel my debt. If either or both of you decline this offer, I will be legally in default."
Construct a game tree for this situation and determine what the dominant strategy is for each creditor.
a) How does this impact the debtor, favorable or unfavorable, given the alternative of bankruptcy?
b) What does this tell you about bankruptcy law?