Motivation

1. BANK CRISIS RESOLUTION AND FOREIGN-OWNED BANKSRobert E. Eisenbeis* and George G. Kaufman***Director of Research, Federal Reserve Bank of Atlanta**Loyola University Chicago and Consultant, Federal Reserve Bank of Chicago

2. Motivation • CROSS-BORDER EXPANSION IN BANKING IN THE FORM OF FOREIGN-OWNED BANKS IS GROWING RAPIDLY • BUT BANK INSOLVENCIES ARE NOT NECESSARILY RESOLVED EFFICIENTLY AT LEAST COST TO THE ECONOMY • THEREFORE, HOW DO FOREIGN-OWNED BANKS AFFECT THE ABILITY OF HOST COUNTRIES TO RESOLVE INSOLVENCIES IN THESE BANKS EFFICIENTLY? • AND DOES THE MODE OF ENTRY – BRANCHES V SUBSIDIARIES AFFECT EFFICIENT PROBLEM RESOLUTION?

3. Conclusions • THE “BRIGHT SIDE OF CROSS BORDER BANKING” • EXPANSION IN CROSS-BORDER BANKING GENERALLY PRODUCES MAJOR ADVANTAGES • IMPROVED EFFICIENCY AND • STABILITY WHEN THINGS ARE GOING WELL • THE “DARK SIDE OF CROSS-BORDER BANKING” • EXPANSION, PARTICULARLY THROUGH ESTABLISHMENT OF FOREIGN BRANCHES, MAY INCREASE GREATLY THE COSTS OF RESOLVING INSOLVENCIES

4. EFFICIENT BANK INSOLVENCY RESOLUTION • EFFICIENT RESOLUTION = MINIMIZE LOSSES = CREDIT LOSSES & LIQUIDITY LOSSES • PRINCIPLES • PROMPT LEGAL CLOSURE AT POSITIVE CAPITAL (MINIMIZE CREDIT LOSSES) • PROMPT ESTIMATES OF CREDIT LOSSES (RECOVERY VALUES) AND ASSIGN “HAIRCUTS” • PROMPT REOPENING OF LARGE BANKS (MINIMIZE LIQUIDITY LOSSES) • PROMPT REPRIVATIZATION AND RECAPITALIZATION

5. PROMPT LEGAL CLOSURE (MINIMIZE CREDIT LOSSES) • OUST SHAREHOLDERS AND SENIOR MANAGEMENT • SEPARATE BANK BANKRUPTCY CODE (FDIA) • NOT BHCs • PCA UNDER FDICIA (5 CAPITAL ZONES) USING MARKET-MIMICKING SANCTIONS/SPEED BUMPS • DISCRETIONARY • MANDATORY • BRIGHT LINE CLOSURE RULE (MINIMUM 2% EQUITY ÷ TOTAL ASSETS) • PRESPECIFIED • WELL PUBLICIZED • LOSSES PRIMARILY TO SHAREHOLDERS • MINIMIZE PROBABILITY OF RUNS

7. PROMPT ESTIMATE AND ALLOCATION OF CREDIT LOSSES • REGULATORS PREPARED UNDER PCA • AVOID TBTF/SRE • REQUIRED LOSS SHARING STRENGTHENS MARKET DISCIPLINE

8. PROMPT REOPENING (MINIMIZE LIQUIDITY LOSSES) • NO PHYSICAL CLOSURE • INSURED DEPOSITORS ACCESS TO PAR VALUE • UNINSURED DEPOSITORS ACCESS TO ESTIMATED RECOVERY VALUE • ADVANCE DIVIDENDS • BORROWERS ACCESS TO CREDIT LINES • BRIDGE BANKS • CAN AVOID TBTF/SRE

9. PROMPT REPRIVITIZATION AND RECAPITALIZATION • REGULATORS PREPARED UNDER PCA • LEAST – COST RESOLUTION • GOVERNMENT – OWNED/OPERATED BANKS NOT EFFICIENT • REQUIRE MINIMUM “ADEQUATELY – CAPITALIZED” STATUS

10. PROBLEMS IN EFFICIENT RESOLUTION INTRODUCED BY FOREIGN-OWNED BANKS (DARK SIDE OF DIRECT CROSS-BORDER BANKING) • PROMPT LEGAL CLOSURE • DATA LESS MEANINGFUL • CLOSURE DECISION FOR BRANCHES BY HOME COUNTRY • DIFFERENT CLOSURE AND ENFORCEMENT RULES IN DIFFERENT COUNTRIES • HOME COUNTRY REGULATORS CONFLICTED • HOST COUNTRIES PROBLEMS WITH SUBSIDIARIES

11. Account coverage Maximum amount Type of account, e.g., interbank Foreign currency deposits Coinsurance Ownership Private vs. public (government) Funding (premiums) Ex-ante vs. ex-post Magnitude Risk-based vs. flat Regular vs. “topping up” Reserve fund Minimum magnitude Voluntary or required Government support Explicit (official) vs. implicit Credibility of private funding (premiums) Speed of payment if insolvency Insured depositors - to par value Uninsured depositors - to market (recovery) value Advance dividends vs. as assets sold Claim filed Automatically By claimant Pre-insolvency intervention Prompt correction action (PCA) Declaration of insolvency Private creditors or government agency Insurance agency vs. other Closure rule vs. discretion (forbearance) Insolvency resolution Administered by insurance agency, other agencies, or bankruptcy court Least cost resolution (LCR) Insurer serves as receiver/conservator Too big to fail Membership Mandatory or voluntary Other Coinsurance Offsetting Table 3POSSIBLE DEPOSIT INSURANCE SYSTEMS DIFFERENCES IN DIFFERENT COUNTRIES

12. PROBLEMS IN EFFICIENT RESOLUTION (cont) • PROMPT ESTIMATES OF LOSSES • DIFFICULT FOR BRANCHES • DIFFICULTIES FOR SUBSIDIARIES • PROMPT REOPENING • BRANCHES BY HOME COUNTRY • DIFFERENT DEPOSIT INSURANCE PAYMENT AND RESOLUTION TIMING SCHEMES • HOME COUNTRY CONFLICTS • CROSS-BORDER INSURANCE PAYMENTS • SUBSIDIARIES EASIER • “FUNCTIONALITY”

13. PROBLEMS IN EFFICIENT RESOLUTION (cont) • PROMPT REPRIVITIZATION AND RECAPITALIZATION • GREATER NEGATIVE NET WORTH • BRANCHES PROBLEM • INSUFFICIENT DOMESTIC CAPITAL • CULTURAL/LANGUAGE PROBLEMS

14. Conclusions • INCREASED COSTS TO HOST COUNTRIES MAY ARISE FROM • LACK OF ACCESS TO TIMELY AND ACCURATE INFORMATION • DIFFICULTIES IN COORDINATION WITH HOME COUNTRY REGULATORS • UNCERTAINTY AS TO WHEN HOME COUNTRY REGULATORS MAY INTERVENE • DIFFERENCES IN INSOLVENCY AND PCA CRITERIA • DIFFERENCES IN LEGAL REQUIREMENTS FOR TREATMENT OF CREDITORS • DIFFERENCES IN DEPOSIT INSURANCE REGIMES • PROBLEMS IN PROVIDING TIMELY ACCESS TO CLAIMS • INCENTIVES FOR HOME COUNTRY REGULATORS TO FAVOR THEIR CITIZENS RELATIVE TO HOST COUNTRY CITIZENS • DIFFERENCES IN THE RELATIVE SIZE AND IMPORTANCE OF AN INSTITUTION IN ITS HOME COUNTRY RELATIVE TO HOST COUNTRY

15. Conclusions (cont.) • PROBLEMS ARE LESS, BUT NOT INSIGNIFICANT, WHEN EXPANSION TAKES PLACE VIA SUBSIDIARIES AS OPPOSED TO BRANCHES. • IN LIEU OF PROBLEMS, AND IN ABSENCE OF UMBRELLA DEPOSIT INSURANCE SYSTEM AND CLOSURE AND REGULATORY POLICIES, HOST COUNTRIES WOULD BE BETTER OFF TO PROMOTE ENTRY THROUGH SUBSIDIARIES RATHER THAN BRANCHES.

16. POSSIBLE REMEDIES • PROBLEMS ARISE FROM DIFFERENCES IN CLOSURE RULE AND DEPOSIT INSURANCE SCHEMES AND ENFORCEMENT – GREAT HETROGENIETY • COOPERATION PROBLEMS • SOLUTION – LESS HETROGENIETY • SINGLE, MULTINATIONAL REGIMES • PROBLEMS • TRANSITION SOLUTION – SUBSIDIARIES • STRONG SEIR – PCA & LCR