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Resolution of large complex financial organizations

  • Robert Bliss
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    The resolution of a large complex financial organization (LCFO) presents numerous problems, including organizational complexity, opacity of positions, and conflicting legal jurisdictions. Of particular concern is the potential impact of large derivatives books. Widespread adoption of laws permitting close-out of derivatives contracts exempts these contracts from the usual stays that provide time for the orderly resolution of claims by the courts. Thus, a potentially significant part of the LCFO's assets and liabilities are exempted from normal bankruptcy procedures, creating the potential for a disorderly dismemberment of an insolvent LCFO. Nonetheless, however inconvenient they may be for bankruptcy administrators, the closeout netting privileges enjoyed by derivatives are essential to reducing legal uncertainty, increasing liquidity, and minimizing the systemic impact of large failures. The solution advocated in this paper is for regulators to provide "facilitated private resolution" for dealing with systemically important financial institutions, along the lines of the Long-Term Capital Management workout and the "London Approach" practiced in the last century. To make this early intervention effective, consolidated supervision is needed to ensure that comprehensive information is available and intervention takes place while the firm is still solvent.

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    File URL: http://www.chicagofed.org/digital_assets/publications/working_papers/2003/wp2003-07.pdf
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    Paper provided by Federal Reserve Bank of Chicago in its series Working Paper Series with number WP-03-07.

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    Date of creation: 2003
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    Handle: RePEc:fip:fedhwp:wp-03-07
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    1. John Armour & Simon Deakin, 2000. "Norms In Private Insolvency Procedures: The 'London Approach' To The Resolution Of Financial Distress," ESRC Centre for Business Research - Working Papers wp173, ESRC Centre for Business Research.
    2. Furfine, Craig H, 2003. " Interbank Exposures: Quantifying the Risk of Contagion," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 35(1), pages 111-28, February.
    3. John Armour, 2001. "The Law and Economics of Corporate Insolvency: A Review," ESRC Centre for Business Research - Working Papers wp197, ESRC Centre for Business Research.
    4. Robert R. Bliss, 2003. "Bankruptcy law and large complex financial organizations: a primer," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 48-58.
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