The World Bank

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The World Bank

• Bank Insolvency Framework and the Global Bank
  Insolvency Initiative
• Ernesto Aguirre, Manager of Banking Regulation
• June 20, 2002

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Contents

• Bank Insolvency Framework vs Corporate Insolvency
  
• - Definition
• - Concept of Bank Insolvency
• - Starting Point
• - Objectives
• Importance of the Bank Insolvency Framework
• - Concept
• - Country Examples
• The Bank Insolvency Initiative
• - Objectives
• - Participants
• - Work Program
• - Contents

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What is the Bank Insolvency Framework and how it
differs from the general (corporate) insolvency
framework.
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Bank Insolvency Framework

• Definition
• Set of measures that should (have to) be taken by
  the State Authorities to confront
  actual/potential bank insolvency.

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Bank Insolvency Framework

• b) Applicable concept of Bank Insolvency
• Insufficient criteria for triggering actions
  under the BI Regime
• Balance sheet insolvency Liabilities exceed
  assets
• Liquidity insolvency Failure to pay
  obligations as they fall due
• Regulatory insolvency Non-compliance with
  minimum solvency ratios

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Bank Insolvency Framework

• b) Applicable concept of Bank Insolvency (cont.)
• For banks the perception of the supervisor is
  key. A bank is insolvent when the bank regulator
  says so...
• Concept of insolvency as a trigger point
• Whenever a competent, independent regulator
  perceives the bank as potentially (imminent?) or
  actually insolvent measures under the BI regime
  should start to be taken.

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Bank Insolvency Framework

• c) Starting point Bank Intervention
• Measures from the State Authorities which imply a
  direct interference with the administration of
  the Bank.
• Examples
• Cease and desist NO
• Order to change directors NO or administrators

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Bank Insolvency Framework

• c) Starting point Bank Intervention (cont.)
• Recapitalization orders NO
• Recovery Program NO- when specific
  implementation and design are carried out
  by the banks administration
• YES- when implementation or specific
  design are made by (or under the
  orders from) the banking regulator or
  its agents

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Bank Insolvency Framework

• c) Starting point Bank Intervention (cont.)
• Agent of the Bank Regulator YES in the Board of
  Administration(veto powers, etc.)
• Controlled administration YES
• Administration YES(with or w/o ownership
  participation

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Bank Insolvency Framework

• d) Objectives
• Primary objectives
• To protect the payment systems
• To preserve the efficient provision of credit and
  banking services to the economy

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Bank Insolvency Framework

• d) Objectives (cont.)
• Preconditions
• Public confidence in the Banking System
• Technical capability of the Banking System

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Bank Insolvency Framework

• d) Objectives (cont.)
• Secondary objectives
• Market discipline
• Efficiency of the process
• Equity of treatment

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Bank Insolvency Framework

• Secondary Objectives (cont.)
• The secondary objectives become the paramount
  ones when the bank has been closed (Banking
  Liquidation) and it is only in this context that
  all principles applicable to Corporate insolvency
  apply equally to the two processes. ( i.e. The 3
  secondary objectives, plus all principles
  reflected in Principle 6 of the Legal Framework
  for Corporate Insolvency)

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Bank Insolvency Framework

• Conclusion
• The scope of the BI regime is
• Very wide, and
• Different from the scope of the CI Regime
  (similar only in the context of Bank Liquidation)

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II. Importance of the Institutional, legal and
regulatory framework to deal with bank
insolvency, including in the context of systemic
crisis

• Strategy- - - - - - -Framework- - - -
  -Implementation

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Country Examples-Mexico 1994
Was the intervention and resolution regime too weak? Long time required to intervene (resolve) large insolvent banks
Inadequate framework for the use of public funds Difficulties to allocate resources to recapitalize banks.
Deficient bankruptcy regime Problems to force defaulted debtors to repay their loans.
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Country Examples-Thailand 1997
Lack of legal protection for bank authorities Authorities afraid of intervening banks or take prompt corrective measures to prevent problems from growing.
Lack of explicit deposit insurance Weak legal regime for the intervention /resolution of financial institutions. Were they a factor to decide the adoption of a blanket guarantee covering all deposits in the system? Was the above decision timely? Relation between the adoption of the blanket guarantee and the costs associated with the crisis resolution.
Deficient bankruptcy regime Problems to force debtors to repay or renegotiate their loans.
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Country Examples-Korea 1997
Excessive constraints to entry of foreign investors Delays to sell large intervened banks
Fragmented financial sector legislation Authorities dealt rapidly with banks problems, but failed to recognize and rapidly solve problems of other non-bank financial institutions.
Deficient bankruptcy regime Problems to force defaulted debtors to repay their loans.
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Country Examples-Ecuador 1998
Lack of legal protection to bank authorities Authorities afraid to intervene banks or take appropriate corrective measures before a bank collapses.
Weak institutional arrangements High Turnover of senior government officials. Main decisions revoked by courts or the legislative.
Deficient bankruptcy regime Problems to force defaulted debtors to repay their loans or restructure their debts..
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Turkey 1999Adequate legal framework but not
sufficient
1999 New Banking Law Allowed rapid intervention of small and medium insolvent banks.
But fiscal problems prevented Rapid resolution of insolvent banks.
Once the funding was resolved Resolution of insolvent banks proceeded adequately.
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• Global Bank Insolvency Initiative
• Objectives
• To determine the appropriate institutional, legal
  and regulatory framework to deal with bank
  insolvency including in the context of systemic
  crises. ( the framework)
• To, progresively, create an international
  consensus regarding the framework including best
  practices and alternatives to deal with bank
  insolvency.

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Bank Insolvency Initiative

• Objectives
• To design a methodology for the assesment of the
  countries institutional, legal and regulatory
  framework to deal with bank insolvency, and
• To facilitate the provision of technical
  assistance to countries for the improvement of
  their framework.

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Participating Institutions
Coordination WB (leading institution) IMF (main partner)
Participants (International Institutions) BIS, FSI, BCBS Regional Development Banks
Participants (Countries) All countries through Bank Supervisory Agency Central Bank Deposit Insurance Agency
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Work Program(2002-2003)

• 2 Global seminars (Basle, Washington)
• 5 Regional seminars (Uruguay, Poland, Malaysia,
  South Africa, Lebanon)
• Core Consultative Group
• Final report and supporting documents
• Regional Support Groups
• Consultation/ Questionnaire and global database
• Internet web-site

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Key Framework
Institutional aspects Who decides Who implements Need to avoid gaps and duplications of responsibilities Eliminate uncertainty as to which authority is in charge
Legal protection and accountability Bank regulator/bank restructuring authority Accountability to whom?
Principles and mechanisms for the use of public funds Least-cost solutions Transparency Fairness

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Key Framework
Bank Intervention Clear rules for bank intervention Flexibility to carry out an intervention whenever the bank authority deems it necessary.
Entry Rules New foreign and domestic investors Fit and proper rules
Mechanisms for bank restructuring and resolution Mergers and acquisitions Purchase and assumption transactions Bridge banks Good bank-bad bank Other
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Key Framework
Liquidation Deposit payoff Asset resolution Debt restructuring and recovery
Deposit insurance Limited deposit insurance Schemes to assist troubled institutions Other
Systemic Crises A separate regime? Regulatory forbearance
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Beyond the Legal Framework

• Crises type 4
• Judicial system
• Enforcement capabilities
• Other issues

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The World Bank

• Bank Insolvency and the Global Bank Insolvency
  Initiative
• Ernesto Aguirre, Manager of Banking Regulation,
• June 20, 2002