Javier Bolzico • Alberto Figueroa • Ricardo Tappatá • Yira...

Bank Resolution Workshop 0Washington DC, Nov 30 – Dec 2, 2004

• Javier Bolzico• Alberto Figueroa• Ricardo Tappatá• Yira Mascaró

BANK RESOLUTION WORKSHOP

Javier BolzicoYira Mascaró

Washington DC, November 2004

Bank Resolution Workshop 2

Different stages of the life of a bankIntroduction

Private Solution (market-driven)

Licensing Normal Operations Someweaknesses

•Prompt Corrective Actions

•Regularization Plan

Standard Supervision(Camels 1-3)

IntensiveSupervision(Camels 4)

Status

Measures

Point of noPoint of noreturn return

•Resolution

ResolutionProcess

UnviableBank


What is Bank Resolution?

The procedures and measures taken by the authorities to solve the situation of an unviable bankThe procedures and measures taken by the authorities to solve the situation of an unviable bank

The resolution of a bank implies a certain degree of deposit payment and typically leads to the withdrawal of the bank´s license

The resolution of a bank implies a certain degree of deposit payment and typically leads to the withdrawal of the bank´s license

A possible definition


And… It affects And… It affects depositors´ resourcesdepositors´ resources

Why is Bank Resolution of great importance?

It could lead to negative systemic effects if a bank closure is mismanagedIt sets incentives for the remaining part of the systemIt has an impact on the total cost of resolution, depending on the modus operandi in which the bank is closedIt is at this point that bank supervision is really tested


Most common resolution schemes (Basel Definitions)

Closure of the bank and payment of deposits11

Open bank assistance22

Government intervention (take-over)33

Merger with other banks (induced by authorities)44

“Bridge Bank”55

Purchase-and-assumptions transactions (P&A)66

F & H (“Forbearance and Hope”)


Closure of the bank and payment of deposits

• The problem is solved

• Small moral hazard – market discipline

Advantages

11

• Very costly

• Loss of banking services and jobs

• Deterioration of assets due to the judicial liquidation process

• Possible systemic impact

Disadvantages

The failed bank is closed and deposits (total or partial) are paid. The bank is later liquidated


Open bank assistance

• Preserves Bank operations

• Avoids -- temporarily -- the cost of bank closure

Advantages

• Very costly - Fiscal & monetary impact

• Does not attack the root of the problem

• May increase the final cost of resolution

• Moral hazard

Disadvantages

The government keeps the troubled bank open by providing solvency and/or liquidity support

22


Government Intervention33

• Preserves bank operations

• Avoids - temporarily- the cost of bank closure

Advantages

• Very costly - Fiscal & monetary impact

• Does not attack the root of the problem

• May increase the final cost of resolution

• Moral hazard

Disadvantages

The Central Bank (or any other public Institution) takes over the management and shareholders of the failing bank and runs the business


Merger with other banks (induced by authorities)44

• Preserves bank operations

Advantages

• May cause problems to acquiring bank

• May discourage private investment

• Moral hazard

Disadvantages

The failed bank is absorbed by another (solvent) bank. The authorities may use “persuasion”


“Bridge Bank”55

• Preserves bank operations & buys time

Advantages

• The bridge could “become a road” • May require capital and liquidity

support from the government• May increase the final cost of

resolution • Interferes with the Market• Moral hazard

Disadvantages

The authorities close the troubled bank and, at the same time, create a new bank (“bridge bank”) with some, or all, of the original assets and liabilities. A designated “liquidator” runs the bank until its shares are sold to the market


Purchase-and-assumptions (P&A) transactions66

In a P&A, one o more healthy banks (or investors) purchase some, or all of the assets and assume liabilities. The process is conducted by the authorities and implies the withdrawal of the bank´s license. The original shareholders and managers can be removed in the process.

The P&A transaction may be structured in many different ways:

Here we will refer to onespecific form of aP&A transaction

Good Bank - Bad Bank scheme

“Bad bank”“Good bank”


Purchase-and-assumptions (P&A) transactions (cont.)What makes the “Good bank-Bad bank” scheme different among P&A transactions?

66

The legal unity is split into two

Thus, a large portion of the assets avoids being eroded through a judicial

liquidation process

The legal unity is split into two

Thus, a large portion of the assets avoids being eroded through a judicial

liquidation process


Purchase-and-assumptions (P&A) transactions (cont)If it is well applied it:

66

• Minimizes the cost of resolution (preserves the value of assets)

• Has a very small impact on bank operations

• Is market friendly • Minimizes moral hazard

Advantages

• Its implementation requires skills, expertise, political will and guidelines

• Requires the voluntary participation of private banks

• It may not be so attractive from the political point of view

Disadvantages


“Good Bank” - “Bad Bank” Scheme


Separates the failed bank intoSeparates the failed bank into

How it works…“Good Bank”- “ Bad Bank” scheme

Transfers the “good bank” to one or more solventTransfers the “good bank” to one or more solventbanks willing to acquire it banks willing to acquire it

Leaves the “bad bank” to its owners and startLeaves the “bad bank” to its owners and startthe liquidation process (typically ends in bankruptcy)the liquidation process (typically ends in bankruptcy)

“Good bank”

“Bad bank”


“Good Bank”- “ Bad Bank” scheme

What are the elements of each component…

An efficient way to transfer assets is through a Trust

“Bad bank”

• Rest of liabilities and remaining (bad) assets

“Good bank”

• Liabilities: Deposits and Labor claims

• Assets: the good assets + contribution from deposit insurance agency; not greater than liabilities


Let’s see in more details how it works...



Failed Bank

Assets (real value-net) Deposits

Other Liabilities

Bad Bank Good Bank

Trust

Assets Deposits

Deposit Insurance Agency

Bank

Acquiring Bank (s)

Judicial liquidation

The “ice cream”theory


Transfer topurchasing

bank (s)

Trust

TrustCertificate

TrustCertificate

TrustCertificate

TrustCertificate

Bank Resolution framework in Guatemala: EAPBalance sheet of failed bank

Assets(net)

Provisions

Guaranteed deposits

Other deposits

Other liabilities

Good BankLabor claims

Guaranteed deposits

Other deposits

FOPA Contributions

Note: It assumes that net assets + FOPA contributions are enough to transfer all the deposits to the “Good Bank”.

Assets(net)

The certificate amount = sum of transferred liabilities|

Bad Bank (residual bank)

Other liabilitiesResidual assets (after coveringFOPA contribution)

Toliquidation


Trouble Bank

Is it always possible to apply Good Bank-Bad bank scheme?

Is GB-BB scheme

feasible?YesFailed Bank

Assets (real value-net) Deposit

Other Liabilities

Bad Bank

Judicial liquidation

Good Bank

Trust

Assets Deposit


NoPayment of Deposits´

Guarantee

Liquidation

Failed Bank

Assets (real value-net) Deposits

Other Liabilities



Some advantages of the Good Bank-Bad Bank scheme

Minimizes contagion risk & is market friendly

Minimizes costs:• No public funds (typically)• No further deterioration of assets• No further operating and financial losses

Preserves banking services and jobs

Eliminates legal contingencies for buyer (all hidden claims remain with the bad bank)

Minimizes moral hazard (shareholders of failed bank face a bankruptcy process)


• Proper legislation

• Deposit Insurance Agency (solvent)

• Formal procedures (regulations, manuals, criteria, etc)

• Implementation capability (skills, training, organization, logistic)

• Enhanced supervision

• BCF (Bank capitalization fund)

“Good Bank”- “Bad Bank” scheme

Preconditions to apply “Good Bank” - “Bad Bank” scheme

(and… political will)(and… political will)


Handling Bank Resolution: Learning Curve (Argentina)

Period of unavailability of deposits (working days)


“Close the bank on Friday, open it on Monday”

75

42

0 4 5 00

1020304050607080

Jun-98 Oct-98 Nov-98 Feb-99 Apr-99 May-00

Cases (90’s)


102694%28292939TOTAL3100%1010Compañía Financiera Luján Williams SA 26-May-00

100100%456456Banco Mendoza SA16-Abr-9960100%168168Banco Israelita de Córdoba12-Feb-9960100%171171Banco Almafuerte CL27-Nov-98350100%708708Banco Mayo CL30-Oct-98

100%106106Banco Medefin UNB SA25-Jun-98121100%331331Banco Patricios SA04-Jun-981854%2445Banco Platense SA 30-Abr-988774%251340Banco Crédito Provincial SA18-Dic-9760100%184184Banco Argencoop12-Dic-979100%2323Nuevo Banco de Azul SA08-May-97

118100%296296Banco Unión Comercial e Industrial SA30-Abr-9740100%101101Coopesur CL31-Mar-97

SEDESA (millions)

% of PaidDeposits

Paid Deposits(millions)

Total Deposits(millions)BankDate

Applied experience – Argentine case (90´s)Banks resolved in Argentina (97-00)



Needed actions for implementing a successful Bank Resolution:


• Collect relevant financial and economic information

• Prepare the provisional balance sheet of the “Good Bank”

• Find a “buyer”

• Plan the Resolution process

• Materialization of the Resolution

• …


RehabilitationPlan

time

AA BB“Needed actions”

RehabilitationPlan

timeSuspension ofbank operations

End of BankResolution Process

AA BB“Needed actions”

timeSuspension ofbank operations

End of BankResolution Process

AA BB

RehabilitationPlan

“Needed actions”

RehabilitationPlan

timeAA

“Needed actions”“Needed actions”

BB

Period of Deposit unavailability (suspension)

BB

“Good Bank”- “Bad Bank” scheme“Good Bank”- “Bad Bank” scheme

Reducing length of resolution period...


Adequate legal and regulatory

framework

Operating manuals & procedures

Adequate implementation

capabilities

Cases

WB Support provided through FSALs, FTALs, FSAPs, etc.

Implementation of “Good Bank”- “Bad Bank” Scheme“Good Bank”- “Bad Bank” scheme

Where is the region?

Work in progress

ArgentinaBoliviaPeru

ParaguayGuatemala

Dominican R.El SalvadorHondurasNicaragua

Selected countries



Main participants (stakeholders)

Employees

1) Central Bank, Superintendency, etc

Depositors

BankCapitalization

Fund


SupervisoryAuthority1)

Othercreditors

Trustee

Judicial Power

AcquiringBank

Financial Sector

Failed Bank


Exercise: Role Play

Role Play: Stakeholders of a Bank Resolution


Role Play: Stakeholders of a Bank Resolution

Based on my own experience, any (banking crisis) resolution is bound to be faced with strong resistance and delays. First, the budget (i.e. the Ministry of Finance) will not willingly accept that it has to pay for the costs of banking crisis resolution. Second, the management of the banks will try to change the banking problem resolution and not shoulder the costs of their actions. They have clear vested interests in the bank as it is (their high salaries, their influence through credit allocation, the wish to hide previous decisions, etc). Third, depositors (households and companies) will make every effort to minimize their losses and get someone else to bear the costs of the problem. Fourth, the owners of banks will try to put political pressure on the government to bail them out. Fifth, there is the personnel of the bank, because they know that either all or part of them will lose their jobs. Sixth, politicians will try to minimize the problem in the hope that it will not hurt their “image”…

As a governor of a Central Bank once said…


Role Play: Stakeholders of a Bank ResolutionPriorities for this exercise:

Establish: why are you involved in this situation?

Each group will assume the role of some of the main participants

Which are your main interests?


Main participants (stakeholders)

Failed BankOwner-Managt.t

Employees

1) (Central Bank, Superintendency, etc

Depositors

BankCapitalization

Fund


SupervisoryAuthority1)

Othercreditors

Trustee

Judicial Power

AcquiringBank

Financial Sector


Seminar on BANK RESOLUTION

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