Draft “Bank Resolution” Bill is vague and violates the rule of law

05 December 2018
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The draft Bill aimed at shoring up struggling banks violates the rule of law by authorising unequal treatment without identifying objective differences to justify it. In addition, in dispensing with equal treatment merely because someone at the SA Reserve Bank, without objective criteria, determines that such action is necessary. 

This Bill envisages a specialised kind of business rescue just for banks called “resolution”. It plans to give the Finance Minister and Reserve Bank power to keep weak financial institutions alive to avoid having them wound up.

The wide discretionary powers the Bill would entrust to the Minister and Reserve Bank will affect depositors and other creditors of an ailing bank, all in the name of keeping the bank alive.

This seems a worthy cause. We can all agree that financial stability and protection of depositors are at stake.

Yet other values will be affected, which should not be ignored. They include the right to receive equal treatment from the government and its agencies, rule of law rather than discretionary rule by officials, and the principle that laws should be clear and predictable.

The draft Bill tramples on all these values. Its next iteration will have better regard for them, one hopes.

Here is how the draft Bill deals with the right to equal treatment, in terms of the rule of law rather than the rule of official discretion, and the principle that laws should not be vague:

The Bill gives the Minister discretion to put a bank into “resolution”. This gives scope for complete subjectivity and arbitrariness, which is against the rule of law.

The Bill does not spell out the meaning and purpose of the “resolution” of a bank. It merely talks of management of the bank’s affairs as provided for in the new clauses. The rule of law requires laws to be a lot more accessible than that, and to set out a law’s objective much more clearly.

Does the Reserve Bank “maintain” financial stability? or just “assist” with that? or only “as far as practicable”? The draft Bill is uncertain. One clause states that the Reserve Bank must act in a way that “maintains” financial stability, another that the Bank’s objective is just to “assist in maintaining” stability, and a third that it must aim at stability “as far as practicable”. This is an alarming lack of consistency about a critically important matter.

Is the purpose of the new-fangled “resolution” mechanism to “protect” depositors, or only to “assist” in protecting them? Different clauses say different things. This should be clarified for certainty and for the rule of law to apply.

The Bill is unclear about whether banks’ depositors get more protection than other creditors. A clause states that the Reserve Bank must not take a resolution action if the value of a creditor’s claim would be reduced. A bank’s depositors are creditors of the bank.

The Bill’s stipulations that a creditor of a bank in resolution must not receive less than in winding-up are unworkable. The amount a creditor receives can only be a crude estimate of an amount received on winding-up. Assured amounts are only possible on liquidation after recovery of any impeachable dispositions and realisation of assets.

The Bill allows the Reserve Bank unilaterally to reduce contract payments. The Bill would permit the Bank, if it determines it to be necessary for orderly resolution of an institution, to reduce any amount payable by contract by the institution to another party. This violates the rule of law by permitting an institution’s liabilities to be determined by the Bank instead of by law, and by authorising unequal treatment of creditors without clearly defined justification.

Provisions in the Bill are repetitive (or unclear about whether they apply to different circumstances). One clause states that, if the Reserve Bank determines it necessary for orderly resolution of an institution, it may cancel an agreement to which the institution is party and which came into effect before the institution was put in resolution. Another states that, if the Bank determines it necessary for orderly resolution of an institution, it may cancel an agreement to which the institution is party. This may be mere duplication. Or the former clause may be intended to apply only to agreements which (as it states) came into effect before the institution was put in resolution, and the latter (albeit not expressed) to agreements that came into effect after it was put in resolution. These clauses also violate the rule of law in being unclear and vague.

The Bill is unclear about whether rights under cancelled contracts continue to be enforceable. It states that cancelling the agreement does not affect rights of the parties accrued before cancellation. But it also says the Reserve Bank’s action in reducing an amount payable by agreement by an institution to a party, or cancelling the agreement, will not by itself give a right to the affected party. This must be clarified in the interest of the rule of law.

The Bill is contradictory about whether the value of creditors’ claims may be reduced. The Bill, though stating that the Reserve Bank may reduce the amount payable by an institution to a party under an agreement, also states the Bank must not take action if it appears the result would be that the value of a claim of a creditor of an institution would be reduced. These are contradictory.

The Bill’s requirement of “pari passu” treatment of claims of creditors of the same class is unclear. The Reserve Bank in taking resolution action must treat claims of the designated institution’s creditors who would have the same ranking in insolvency in pari passu. This could mean that the Bank must treat all creditors equally in every respect. But as mentioned, if the Bank determines it necessary for orderly resolution of an institution, it may cancel an agreement to which the institution is party. The pari passu requirement could mean the Bank cannot cancel such an agreement, unless it cancels all the other agreements to which the institution is party, so that all its creditors are treated the same way. This is all terrifyingly  unclear.

The Reserve Bank has discretion to determine that “pari passu” does not apply if it determines that it is necessary to treat creditors’ claims differently for orderly resolution of the institution. This violates the rule of law by authorising unequal treatment without identifying objective differences to justify it, and by dispensing with equal treatment merely if the Bank determines this is necessary, and by not identifying objective criteria for determining when that would be necessary.

No doubt the Reserve Bank is packed with experts whom we can trust to do the right thing. Or the Bill could spell out the right thing more clearly. I know which I prefer.

Gary Moore is a South African lawyer and senior Free Market Foundation researcher


Comments on Draft “Bank Resolution” Bill is vague and violates the rule of law





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06 Dec 2018, 23:45 Rory Short Clearly the country is being governed by people who have no idea what the rule of law actually is. How can we become the winning country that every one would like us to be if such ignorant people continue to govern us.