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Global Financial Industry Makes Detailed Proposals to Address Key Issues of "Too Big to Fail" and to Curb Burdens on the Taxpayer

IIF Report: A Global Approach to Resolving Failing Financial Firms: An Industry Perspective

London and Washington DC, May 24, 2010 — A new international resolution regime is essential to address the critical issue of financial institutions that are seen as “too big to fail” and which, as a result, may currently require taxpayer funds, states the Institute of International Finance (IIF) in a report to international regulatory authorities today. It said ambitious solutions are needed that recognize that losses resulting from a firm’s failure should be shouldered by its shareholders, its unsecured, uninsured creditors, and, in the event of remaining costs, then by the financial industry.

The IIF is the leading global association of financial institutions with 400 members. The new report has been developed by the IIF’s Special Committee on Effective Regulation (SCER) consisting of leaders of major firms and chaired by Mr. Peter Sands, Group Chief Executive Standard Chartered, Plc., and by its Working Group on Cross-border Resolution, chaired by Mr. Urs Rohner, Vice Chairman of the Board of Directors, Credit Suisse.

Mr. Sands said, “The top priority has to be to strengthen the global system’s ability to avoid failures. We need to build a more robust system and this demands continued further improvements in risk management and governance in banks, enhanced well-balanced regulation, a renewed focus on effective supervision, and sound macro-prudential oversight. Authorities need to be provided with the full range of powers necessary to protect the public interest and this includes the power to intervene at an appropriately early stage when a firm is in difficulty.”

Mr. Rohner emphasized, “While effective resolution regimes at the national level are essential, there is a crucial need for them to be integrated in a coherent international framework for cross-border resolution. In an age of commercial globalization the world economy derives huge benefits from the activities of well run global firms. In the event of a failure of a global institution and without a new international resolution regime in place there would be risks of disorder in the markets and burdens on the taxpayer. These risks must be addressed.”

IIF Managing Director Charles Dallara underscored that, “We are proposing approaches to ensure that any financial services firm, irrespective of its size or business activities, to be wound-up in the future without the need for taxpayer support. We need a global resolution framework and our report today provides a meaningful contribution to this objective. The time has now come for the G20 to establish a high-level taskforce to directly address the very complex resolution issues, which we are convinced are surmountable if the appropriate political will is mobilized and a determined effort is mounted.”

In order to establish an effective cross-border resolution framework, all major national jurisdictions should have in place special resolution regimes with key common features which:

  • allow losses to be borne by shareholders and unsecured, unprotected creditors
  • avoid moral hazard;
  • give the authorities the appropriate range of powers of early intervention;
  • include well-designed recovery and resolution planning;
  • operate effectively in the context of an international resolution framework; and,
  • help to minimize the need for taxpayers’ money to be used to forestall failures or pay for the consequences.

Mr. Rohner noted, “Experience shows us that a source of significant losses, which can turn a failure into a potentially systemic event, is the rapid evaporation of value that can occur in the face of the likely sudden cessation of a business, particularly in the context of complex trading activities. We believe that risks here can be mitigated by strengthening the powers of regulatory authorities to intervene early.”

The IIF proposes that authorities need powers to:

  • replace the senior management of the firm;
  • order an increase in capital and order financial restructuring with instruments such as forced debt-equity swaps or “bail-ins” of unsecured, uninsured debt-holders of the firm;
  • identify any parts of the firm which remain systemically vital (such as payments operations) and transfer those to third party acquirers or, if necessary to a bridge bank;
  • delay the operation of termination clauses in favor of counterparties for a short period;
  • require the maintenance of outsourced services; and,
  • coordinate strongly and effectively with resolution authorities of other jurisdictions in which the group is active.

Mr. Sands said, “Taxpayers should not bear the costs of failure. Any additional costs arising out of the winding down of firms should be shouldered by the financial industry itself. Accordingly, there needs to be over-arching principles that guide the approach to meeting costs resulting from failed firms. As far as possible, we should seek private sector solutions — for example, strong firms may in many cases be in a position to acquire weaker firms through negotiated solutions. We would like to see rigor in ensuring that losses are borne by equity-holders as well as by uninsured unsecured creditors.”

Even after losses are attributed to equity holders and creditors there may well be additional costs associated with the resolution of a firm. These might include the administrative costs of running the resolution, any loss of value to the residual creditors as a result of the powers exercised by the authorities, including the transfer of a systemic part of a firm’s business (such as its payment activities) together with good supporting assets to a bridge bank, together with the possible need for working capital or guarantees for such a bridge bank.

Mr. Dallara said, “we are advocating an ex post funding approach that can minimize potential moral hazard problems, maximize fairness, be practical and so achieve efficient results. In addition, we have concluded that an ex post approach is likely to be more effective in aligning the source of the systemic threat that a particular firm’s failure may produce and determine payment responsibilities. We are intent on working with the regulators to define the mechanisms needed for this purpose.”

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