Bankruptcy Rules Considered for Failed Banks
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Bankruptcy Rules Considered for Failed Banks

In the wake of the financial crisis, Senate members are looking at ways to make bank supervision and regulations tougher in an effort to prevent the imbalances that led to some of the recent Wall Street disasters.

Currently, the Senate Banking Committee is working on the draft of a bill that will overhaul the ways the government supervises the financial industry.

In the latest iteration, senators including Senate Banking Committee Chairman Christopher Dodd, are working on a system that would “unwind troubled financial firms,” according to a Reuters article.

Some members of the committee are working for tougher, more stringent regulations than Senator Dodd’s draft currently outlines. Such proponents of stricter regulations for failed banks are presumably wary following government bailouts of failed private companies, like Bank of America, using taxpayer funds. Such bailouts added up to billions upon billions of dollars.

While, according to sources, the draft is fluctuating, currently on the table is a plan that would encourage failed banks to pursue bankruptcy to resolve the situation. If ankruptcy would not work, the plan would include a second stage, in which regulators manage any necessary resolutions.

Those on the committee who want stronger rules support the encouragement of filing bankruptcy as a first step for failed banks. Senator Dodd’s current draft gives “Federal Deposit Insurance Corp the authority to dismantle large troubled financial services firms,” according to the Reuters report. “The FDIC would be able to guarantee debts of firms in receivership.”

The proponents of stronger rules also want to make sure that creditors and shareholders share the risk and the loss when a company goes under. The source of this information has chosen to remain anonymous, because of the fluctuating nature of the documents in their current form.

Senator Dodd spoke to CNBC about the regulation-building process, saying “We're looking at a bankruptcy concept, a receivership. We're going to make resolution a very painful process if we go that route and that's going to be a major step forward with this bill.”

The bill has faced opposition from Republicans on the Senate Banking Committee, and Dodd no doubt faces a challenge to find consensus. The Connecticut senator announced he will retire no later than the end of the year, while committing to financial regulation reform before that time.

Senator Dodd and Richard Shelby, who is the top Republican on the Senate Banking Committee, have both said that they would prefer to find a middle ground on financial reform before January 20, when the Senate reconvenes. Any bill that the committee produces would have to pass through the House of Representatives before President Barack Obama could sign it into law.

The House of Representatives passed its own financial reform bill in 2009, which, according to Reuters, “gives the FDIC the authority to dismantle insolvent firms through bankruptcy or receivership much like it dismantles failing banks now.”

Receivership refers to a process in which responsibility for an entity is given to an outside person to act as a custodian of the property of others, with various rights.

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