Unlike most other countries, the United States uses different Procedures to resolve insolvent banks and nonbank firms. The Bankruptcy Code divides control over nonbank firms among the various claimants, and a judge supervises the resolution process. By contrast, the FDIC acts as the receiver for an insolvent bank and has almost complete con trol. Other claimants can sue the FDIC, but they cannot obtain injunctive relief and their damages are limited to the amount that they would have received in liquidation. The FDIC has acted as the receiver of insolvent banks since the Great Depression, and the concentration of power in the FDIC is traditionally justified by two arguments: (i) EDI1C control speeds the disposition of the bank's assets which maintains the liquidity of deposits and encourages faith in the banking system, and (ii) the FDIC's role as the largest creditor gives it an incentive to maximize recovery. We ask whether they still (or ever did) justify FDIC control. The first argument fails because it conflates the need for a timely satisfaction of the claims of insured depositors by the FDIC with the need to quickly dispose of the failed bank's assets. As stated, the second argument fails to justify FDIC control as the largest creditor can take selfinterested actions harmful to other claimants. However, the FDIC is not merely the largest creditor. A detailed survey of the capital structure Of failed banks reveals that the FDIC is usually the only major creditor and that the value of the FDIC's claim nearly always exceeds the value of a failed bank's assets. The FDIC is the residual claimant and has the incentive to make the right decisions in disposing of the bank's assets. We question whether this principle can justify recent legislation that extends FDIC control over the resolution of large bank holding companies. We further consider four limits on our argument for FDIC control: (i) capital structure is endogenous-the absence of claims junior to the FDIC may reflect the lack of voice given to these claimants in a bank resolution process, (ii) agency costs internal to the FDIC may prevent the FDIC from maximizing the recovery from the failed bank's assets, (iii) the FDIC may not be the residual claimant of extremely large banks with complex liability structures, and (iv) debt conversion schemes which allow for automatic financial restructuring of a failed bank may render bank resolution Procedures less necessary. This Article argues that these limits do not justify removing the EDIC from control in resolving most bank failures.
Recommended CitationRichard M. Hynes and Steven D. Walt, Why Banks are Not Allowed in Bankruptcy, 67 Wash. & Lee L. Rev. 985 (2010).
Available at: https://scholarlycommons.law.wlu.edu/wlulr/vol67/iss3/4