South Bay Law Firm | . . . But Will It Work?
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. . . But Will It Work?

. . . But Will It Work?

The 2008 financial crisis sparked a vigorous debate over how the financial problems of troubled financial institutions ought to resolved.  Ultimately, Congress’ answer to this (and a host of other regulatory matters involving financial institutions) was the Dodd-Frank Act.

But is Dodd-Frank the best answer to resolving the distress of financial insitutions?  In a paper forthcoming in the Seattle Law Review, Seton Hall Professor Stephen J. Lubben discusses The Risks of Fractured Resolution – Financial Institutions and Bankruptcy.  According to Professor Lubben:

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Under Dodd-Frank, “[a]ll large bank holding companies, which now include former investment banks such as Goldman Sachs, and many other important institutions, with more than 85% of their activities in ‘finance,’ will be subject to a new resolution regime controlled by the FDIC and initiated by the Treasury Secretary and the Federal Reserve.  But by developing a new system for addressing financial distress, instead of integrating the new system into the existing structure of the Bankruptcy Code, the financial reform act simply recreates the prior problem in a new place.  The future Lehmans and AIGs will be covered by the new procedure, but other firms that have 84% of their activities in finance will not.  In short, the disconnect between bankruptcy and banking has moved to a different group of firms.  And we may have done nothing but protect ourselves against an exact repeat of the financial crisis.

       . . . .

I use this paper to argue that there are significant gaps in the federal system for resolving financial distress in a financial firm, even after passage of the Dodd-Frank bill.  These gaps represent potential sources of systemic risk – that is, risk to the financial system as a whole.   They must be fixed.  But I should make clear at the outset that I do not argue that these gaps must be filled with the Bankruptcy Code.  Rather, the point is that the various systems for resolving financial distress among financial firms – including the FDIC bank resolution process, the new resolution authority, state insurance resolution proceedings, and the SIPC process for broker-dealers, as well as chapter 11 of the Code – must be integrated so that the result of financial distress is clear and predictable.  Integrating all under the Bankruptcy Code is an option, but not the only way to achieve such clarity.”

Lubben’s work provides an insightful perspective on Dodd-Frank’s effectiveness, at least as it regards the resolution of financial institution insolvency.

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