Regulatory intervention is justified when the Central Bank is concerned about the operations and financial condition of a credit institution.
Bank resolution involves the removal of obstacles to resolvability where solutions must avoid compromising financial stability and limiting the use of public funds. Nationalization and other forms of taxpayer input is justified when the failed financial institution is of systemic importance for the local economy and when the treasury department can realistically expect to be compensated for their rescue mission. These bail-out scenarios are unique for the financial industry and only apply to systemically important financial institutions. Privately owned financial institutions and midcap firms that fail or are likely to fail are resolved by local insolvency laws. However, the resolution process decides on the resolvability and to avoid bank panic and exorbitant capital outflows, the bank is placed under statutory administration.
Credit institutions are supervised by local regulators. To protect the public interest and maintain confidence in the financial system supervisors are mandated to place a bank under statutory administration. Alongside capital and liquidity requirements, market discipline, enhanced resolution regimes and deposit insurance provide account bank holders and other creditors with an extensive framework to resolve distressed situations in financial institutions.
The central bank of a country is often the appropriate regulatory body to deal with distressed financial institutions. When banks are in distress and fail or are likely to fail the regulator may intervene to avoid a bank run and a further decline on the financial position of the institution. Early intervention therefore aims to achieve several objectives. These include maintaining financial stability, protecting and enhancing public confidence in the stability of the banking system, protecting depositors via a local deposit guarantee scheme, minimizing the costs of resolution and avoiding unnecessary destruction of value, and protection of public funds.
A special administrator with statutory duties is appointed when a supervised financial institution has engaged or is engaging in any unsafe and unsound practice in such a manner as to weaken its condition, threatens account holder interests or dissipate the assets of the bank. Or, when the financial institution contravenes with local bank regulation. Furthermore, intervention is justified when the capital levels of the bank fall below the minimum regulatory capital; when capital and value of the assets reached, are likely to reach a level, or are eroding in a manner that may detrimentally affect depositors and other creditors with no reasonable prospects of timely restoration of such capital and value; when the realizable value of the assets of the bank is insufficient; when the bank is unable or is likely to become unable to meet its liabilities and other obligations as they mature or pay its creditors demands in the normal course of business; or when the bank fails to cooperate with its respective regulator.
The initial stage of bank resolution is kept confidential to avoid panic and rush. Resolvability remains the objective of the resolution decree and heavy fluctuations in the value of the bank do not contribute to a mutually beneficial solution. When the time is right, statutory administration is invoked and the administrator appointed. The special administrator takes control of the bank, assets of the bank are frozen and account and payment facilities blocked. Notifications are published on the website of the bank and the regulator and in the National Gazette. An inventory and plan of action to resolve the situation can now be formulated.
Asset and Fund Recovery During Statutory Administration
Despite the special administrator terminating access to bank facilities and assets, account holders and other creditors can get some temporary relief. Since it is always uncertain how long it can take to resolve the underlying issues and draft a plan for the future, the administrator can decide to provide limited access to account facilities. Such measures include but are not limited to a cap on outgoing transactions, withdrawal via bank checks, deposit insurance, and other controlled processes to return deposits.
Recent experience in bank failure and statutory administration in different jurisdictions provides valuable insights for the future. It is revealed that the early days of the resolution provide creditors with most opportunities for recovery. Measures often have a limited time span and were only of benefit to those creditors who were first in line and able to comply with the (often inconvenient) requirements for claim submission.
The conditions for repayment always require the special administrator to verify the eligibility of the claim for repayment. Evidence of the claim must be submitted. This includes proof of ownership, a confirmation of the identity of the account holder and a payment instruction to a bank account (not to be confused with an IBAN account) of the original account holder. If the administrator is uncertain about the eligibility of a claim, it can request additional information. Accounting records and other transaction evidence may be required to verify eligibility. Failure to provide the requested information results in a final rejection of a claim. Caution is therefore advised because creditors who comply with the first stages of the resolution decree have the greatest chance of total repayment of their account balance…
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