Banking Bailout Law

A Comparative Study of the United States, United Kingdom and the European Union

Virág Blazsek

• Publisher: Routledge
• Year: 2020
• Print ISBN: 9780367567583
• eBook ISBN: 9781000208344
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

Setting forth the building blocks of banking bailout law, this book reconstructs a regulatory framework that might better serve countries during future crisis situations.

It builds upon recent, carefully selected case studies from the US, the EU, the UK, Spain and Hungary to answer the questions of what went wrong with the bank bailouts in the EU, why the US performed better in terms of crisis management, and how bailouts could be regulated and conducted more successfully in the future. Employing a comparative methodology, it examines the different bailout and bank resolution techniques and tools and identifies the pros and cons of the different legal and regulatory options and their underlying principles. In the post-2008 legal-regulatory architecture financial institution specific insolvency proceedings were further developed or implemented on both sides of the Atlantic. Ten years after the most recent financial crisis, there is sufficient empirical evidence to evaluate the outcomes of the bank bailouts in the US and the EU and to examine a number of cases under the EU's new bank resolution regime.

This book will be of interest of anyone in the field of finance, banking, central banking, monetary policy and insolvency law.

Part 1

Comparative analysis and systematization of bank bailouts in the selected jurisdictions

1.1 Introduction

The ultimate aim of Part 1 is to explain the different rescue methods that were chosen in the selected jurisdictions and why certain methods worked efficiently in some jurisdictions while they remained loss-making in others. The post-2008 bank bailouts had the effect of a gradual, complete redesign of financial laws and regulations following the most recent financial crisis. What follows provides an update on the long-term outcomes of those cases, and some conclusions are drawn in terms of their methods and whether the existing regulatory framework could be further improved. More than a decade later, more is understood concerning the bailouts and their long-term effects than in the early post-crisis years when the present legal framework was designed and gradually enacted.

1.1.1 The method of systematization of bailouts

The comparative classification and systematization of bank bailout methods and techniques has not been a primary focus of scholarly work thus far.¹ The existing bank bailout systematizations are not fully apt for the purposes of this book and for at least four reasons. First, the known bailout methods were not developed specifically for the financial sector and thus do not properly reflect the specificities of the legal issues raised by bank bailouts. Second, they do not aim to offer a complete systematization of bailout techniques, but rather they mention some possible groupings or categories of bailout cases only. Third, the categories are not specifically created based on the different bailout techniques but rather on system-wide aims, such as systemic stability, protecting taxpayer money, fairness or competition law issues within the EU. Fourth, the existing legal literature has not focused on comparing a larger number of bailout cases across the selected jurisdictions in order to unfold the different bank bailout techniques, their variants and how their elements interplay with each other.² The cases in Part 1 are selected in a way that the catalogue and assessment covers the different types of bank bailout methods and techniques. Thus far, the legal literature has focused more on issues related to systemic stability,³ causes of the most recent financial crisis (first and foremost the housing bubble),⁴ particularly, mortgage market-related legal issues,⁵ legislative-regulatory errors and government policies that contributed to the housing bubble,⁶ financial liability, bankruptcy and insolvency-related issues,⁷ legal options for launching a specific bank resolution regime in the EU,⁸ improvement of the existing bank resolution regime in the US,⁹ detailed analysis of a single bank bailout case, a handful of bank bailout cases, or a specific bailout plan, such as the Troubled Asset Relief Program (‘TARP’) in the US.¹⁰ Notwithstanding, a recent monography of Lybeck includes a larger number of case studies from several jurisdictions (including the US, the UK, Spain and the EU, excluding Hungary). However, he does not compare or systematize the bank bailout methods. He is focused on the roots and chronology of the most recent financial crisis as well as a wide variety of issues related to financial regulation with an emphasis on the bailout–bail-in dichotomy.

1.1.2 The measure of success in the case of bank bailouts

It is necessary to define how to quantify the successfulness of bank bailouts, in other words, to identify the ultimate aims of bank rescue measures. The more these aims are met, the more successful a bailout is. This book suggests a three-pronged formula for measuring the successfulness of bailouts. Collectively, the formula is termed ‘the measure of success of bank bailouts.’ (1) In the context of this book, the primary macro-level goal of bank bailouts is to maintain or restore financial systemic stability and to maintain or restore investor confidence in order to avoid or lessen financial panic and systemic collapse.¹¹ This entire idea is pillowed on the presumption that the good functioning of the financial sector serves public interest.¹² (2) The primary micro-level goal of bank bailouts is to assist the bank to regain its liquidity and return to profitability and to achieve that the money the failing institution receives is paid back to the state. The more the earlier goals are reached in a bank bailout case, the more the bank bailout can be regarded as successful, the more it serves public interest, and the more it contributes to economic value creation. (3) Finally, time is a general indicator of success. The faster systemic stability and the financial health of the rescued entity is restored, and the faster the costs of a bank bailout are repaid to the state, the more a bank bailout can be regarded as successful (even if one considers bank bailouts undesirable in general). The long-term outcome of the selected bank bailout cases is also assessed when measuring their success.

1.2 A systematization of bank bailouts

The purpose of putting first the systematization of bank bailouts and then presenting the cases across the selected jurisdictions based on which the systematization was made is to provide a framework in which then the cases can be situated and, thereby, to guide the reader through this highly technical topic. Based on the three chief ultimate reasons for the rescue measures (economic efficiency, particular political motives, survival of the system) one can group the bank bailouts and determine whether these different reasons led to different outcomes. Bailout seems economically efficient, for example, in the case of Bear Stearns or the TARP bailouts because the chain reactions that would have followed the collapse of those entities would have cost much more than the prevention of the panic’s further escalation. There were bailouts which were not based on economic efficiency and yet they can be considered as successful. The entities that are rescued in this category are solvent and they only face financial distress because of the financial panic situation. This is what can be remedied by “financial firefighting,” as Geithner calls it.¹³ Historically, since the beginning of the twentieth century, rescue measures were undertaken by central banks in the UK and the US while acting as lenders-of-last-resort. Traditionally, the central banks of Spain and Hungary did not function as lenders-of-last-resort. When governments are financially involved in the failing entity (for example, in Fannie Mae or Freddie Mac), ultimately the reason for the rescue measures was not necessarily efficiency but rather standing up for the related government policy, political reasons, such as sustaining the framework for mortgage subsidization and securitization or the strict supervision of the reorganization of a failing entity. The TARP reports reveal that Fannie Mae and Freddie Mac repaid all the bailout money and they have been generating profit for the government; hence, there is an example for bailouts in which, even though the primary purpose of the measure was not economic efficiency, still the outcome of the measure was financially successful for the government. But this book will also discuss the negative effects on the original shareholders whose rights were diluted. Today, Fannie Mae and Freddie Mac limit activities with respect to their original function, and they were substantially reorganized before returning to a viable financial curve. Reorganization is usually a crucial element of these types of bailouts in order to have a successful outcome in the long run. In the case of the third category of bailouts, when the state intervenes because the survival of the system is at stake, governments do not really have an option, as massive simultaneous bank failures do occur.

White and Yorulmazer list the following bank resolution tools: purchase and assumption (‘P&A’), mergers and acquisitions (‘M&A’), the application of bridge bank, asset separation into a good bank and a bad bank (in other words, the creation of a bad asset management company), receivership, restructuring, nationalization (in other words, taking over control by the state in exchange for recapitalization), bail-in (basically, imposing the absorption of losses, but mostly on shareholders and unsecured creditors), any other financial assistance plan or any combination of these methods.¹⁴ In line with the current state in the literature, White and Yorulmazer do not clearly distinguish the notion of resolution and bailout.

Bailouts can also be categorized as monetary policy measures (such as monetary easing or lender-of-last-resort loans of the central bank), fiscal policy measures (such as tax relief), or whether they target just one entity (individual bailouts) or ...

Table of contents

• Cover
• Half Title
• Series
• Title
• Copyright
• Dedication
• Contents
• List of tables
• Table of abbreviations
• Foreword
• Acknowledgements
• Introduction
• Part 1 Comparative analysis and systematization of bank bailouts in the selected jurisdictions
• Part 2 The current legal–regulatory framework of bank bailouts
• Part 3 The building blocks of banking bailout law
• Conclusion
• Bibliography
• Index