A Legal and Institutional Environment for Effective Bank Insolvency Procedures
The basic framework for bank insolvency needs to (a) be set out in the law that states the goals to be pursued by the banking authorities when dealing with insolvent banks and (b) empower the authorities to implement the bank insolvency framework. Moreover, the law should grant operational autonomy to official decision makers who are responsible for enforcing prudential rules; initiating and supervising insolvency proceedings; and acting as official administrators, liquidators, or all of the preceding.
To ensure the autonomy of banking authorities, the law should include provisions that do the following:
• Grant security of tenure to high-level officials of the banking authorities. In particular, the law should stipulate who can dismiss the heads or high-level officials of banking authorities and under what conditions. Dismissal should occur only for cause, and the grounds should be limited to, for instance, (a) inability, (b) illness or other forms of incapacitation preventing one from performing one’s duties over
a significant period of time, (c) willful misconduct, (d) gross negligence, or (e) noncompliance with explicit fitness criteria.
• Grant banking authorities the appropriate degree of budgetary autonomy and flexibility in using its financial resources within the framework of the law, subject always to appropriate accounting and auditing.
• Allow banking authorities to act without interference in their day-to-day operations and decisionmaking, and insulate them from potential pressure from the political establishment and market participants.
The legal mandates and functions of each of the official agencies and authorities involved in the resolution of insolvent banks such as (a) the central bank, (b) the supervisory agency, (c) the deposit insurance agency, and (d) the Ministry of Finance should be clearly delineated in a manner that avoids gaps or overlaps. While the legal framework should provide for the exchange of information and coordination, it also should require each agency to exercise its powers independently. A mechanism for the resolution of potential disputes in an open and transparent manner should be provided for in the law.
