Bridge Bank Schemes in the Asian Region Past Experiences and Perspectives

1. Bridge Bank Schemes in the Asian RegionPast Experiences and Perspectives The Research Subcommittee of Asia Regional Committee International Association of Deposit Insurers Presenter: Mutsuo Hatano, Deputy Governor Deposit Insurance Corporation of Japan International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

2. Contents I. Introduction II. What is a Bridge Bank? : Definition and US Bridge Bank A. Definition and Basic Design B. Origin and Background: US Bridge Bank C. Significance III. Cases in the Asian Region A. Korea B. Taiwan C. Japan IV. Conclusion International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

3. I. Introduction ”Bridge Bank” is a viable alternative for deposit insurers Because it gives the deposit insurers the strategic flexibility; helps preserving the business value of a failed bank; and maintains the convenience of its customers Meanwhile the Asian region is “young” But we have already had some precious experiences of Korea, Taiwan and Japan in this region. Then Asia Regional Committee (ARC) set up a project team in its Research Subcommittee develop a research paper, “Bridge Bank Schemes in the Asian Region; Past Experiences and Perspectives,” to share those experience and knowledge. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

4. II. What is a Bridge Bank?A. Definition and Basic Design • The bridge bank is a “temporary bank established and operated to acquire the assets and assume the liabilities of a failed institution until final resolution can be accomplished (IADI Glossary).” • The bridge bank is designed to preserve or prevent deterioration of the value of a failed bank. • The bridge bank provides time allowance to deposit insurance authority for the final decision of resolution strategy. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

5. II. What is a Bridge Bank?B. Origin and Background • The term “bridge bank” was originated in the United States with the Competitive Equality Banking Act (CEBA) in 1987. • The FDIC was authorized to establish bridge banks by CEBA and it firstly established a bridge bank in October 1987. • The FDIC executed its bridge bank power 10 times to solve 114 failed banks with $89.9 billion in total asset through 32 bridge banks between 1987 and 1994. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

6. II. What is a Bridge Bank?C. Significance The bridge bank is designed to contribute the financial stability eventually • The most common acknowledgement must be it would produce time allowance for the better resolution of failed banks. • Also the early bridge formation can avoid unnecessary complications and delayed resolution (It may shorten a bank resolution process). • It helps maintaining bank operations while a final resolution strategy is determined and contribute to keep its value of failed bank’s business. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

7. II. What is a Bridge Bank?C. Significance However it should be noted that there are concerns on • Negative publicity to the public • Cost overrun from original estimate • Possible reduction of the deposit base (reducing the institution’s franchise value) International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

8. III. Cases in the Asian Region International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

9. III. Cases in the Asian RegionKorea/ Current Specification • a) Objectives and its Establishment • To protect depositors and maintain the stability of the financial system • b) Legal framework • Banking Act/Mutual Savings Act • Depositor Protection Act /Financial Restructuring Act • c) Governance and Organization • The KDIC and FSS (Financial Supervisory Service) supervise the bridge bank. • The president, directors, and auditor shall be appointed by the KDIC. • The bridge bank is a quasi-subsidiary of the KDIC International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

10. III. Cases in the Asian RegionKorea/ Current Specification • d) Business Transfer • Although there is no time limit, the appraisal may take 1 or 2 months and a bridge bank assumes operations on the date of transfer for assets and liabilities. • A bridge bank assumes sound assets whose quality is same or better than precautionary • The only liabilities normally assumed are protected deposits • e) Operations • The bridge bank shall carry out the payment of claims (deposits) and collection of claims (loans) • The existing employees of a failed bank operate the business. • The KDIC may provide funds necessary for the operation. • f) Termination of Bridge Bank • The business period is up to 3 years (plus 1-year possible extension). • The KDIC shall dissolve a bridge bank in case of a termination of business period of the bridge bank, merger, or transfer or taking over of business International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

11. III. Cases in the Asian RegionKorea/ Past Experience Yegaram Mutual Savings Bank Korea’s first bridge bank in 2005 • Bridge bank for two mutual savings banks to be resolved, Arim Mutual Savings Bank and Hanjung Mutual Savings Bank • Limited resource for additional bank resolution at that time constrained the KDIC to establish the bridge bank “to minimize depositors' inconvenience due to business suspension and to promptly deal with the additional savings banks.” • The KDIC invited an expert from outside as an executive officer to enhance the corporate value of the bridge bank. The independent management of the bridge bank was entrusted to maximize its corporate value and develop new profit models. • The KDIC played the role of a supervisor and custodian. • It was conducted under the limited coverage system and the least cost principle. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

12. III. Cases in the Asian RegionKorea/ Perspectives Merit: From the Past Experience in Korea • The bridge bank minimized the impact on the real economy through continuous provision of financial services. • It also eased the burden of selling multiple savings banks at the same time and maintained the value of the companies as an on-going concern. Apprehension: Forbearance risk etc. • Neglect of Least Cost Principle • Conservation of a bank without competitiveness • Harm of fair competition in term of creating a bank support by the government agency, namely the KDIC. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

13. III. Cases in the Asian RegionTaiwan/ Current Specification • a) Objectives and its Establishment • To manage systemic crisis and maintain the financial stability. • b) Legal framework • Deposit Insurance Act • Banking laws • c) Governance and Organization • The competent authority, FSC and CDIC supervise the bridge bank. • The board shall be composed of five (5) to nine (9) people with one of which being the chairman. • The appointment of the chairman of the board, the directors and the supervisor shall be done by the CDIC. • The entire related requirement is under drafting by CDIC and subject to the approval by the FSC. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

14. III. Cases in the Asian RegionTaiwan/ Current Specification • d) Business Transfer • The bridge bank assumes all or part of the businesses, assets and liabilities of the failed bank. In principle, the bridge bank assumes all the asset of failed bank except the Non-performing loans, written-off loans etc. • Basically, all the liability of failed bank can be assumed. • e) Operations • The bridge bank succeeds banking operations of a failed bank • CDIC can hire employees under contractual basis from the failed bank, or other commercial banks, and the bridge bank covers those expenses. • CDIC may offer working capital to bridge bank if necessary • f) Termination of Bridge Bank • Duration of a bridge bank is limited to 2 years (possible 1-year extension). • In the case of no acquirer appears within the time limit, the creditors of the bridge bank will be reimbursed and the liquidation proceeds will be applied for the remaining assets and liabilities. • After the liquidation proceeds are finished, the CDIC will assume the loss if there is any. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

15. III. Cases in the Asian RegionTaiwan/ Past Experience Conservatorship of CDIC Taiwan • Even though CDIC could adopt the “bridge bank” scheme it has no experience in establishing a bridge bank. • The competent authority in Taiwan tended not to close any failing bank because of the possible high social cost to resolve the failing banks. • Then CDIC became a conservator and played a bridge-bank-like-role during the period of its conservatorship in the past. • CDIC did not own a failing bank nor set up a temporary assuming institution. But CDIC was responsible for the banks’ operations and tried to auction off the failing bank under the name of the failing banks until it sold the banks. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

16. III. Cases in the Asian RegionTaiwan/ Perspectives Handling Systemic Crisis • The bridge bank would be established when there is potential risk of a systemic crisis during the period of its conservatorship. • The mechanism will be lined up as an equipment to help in maintaining the credit order and financial stability. • It should first consider the methods like P&A or prompt corrective action for bank resolution rather than establishing a bridge bank. Costly Choice and Alert • A bridge bank in Taiwan could be a costly choice as it is a tool of handling the systemic crisis. • Moreover, it should be noted that a bridge bank may not be the best way to presume the value of a failed bank due to its restriction of the business scopes and condition. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

17. III. Cases in the Asian RegionJapan/ Current Specification • a) Objectives and its Establishment • To take over the operations of a failed bank and to temporarily maintain its operations. • The DICJ shall become the promoter for the establishment of a bridge bank that is a subsidiary of the DICJ • b) Legal framework • Deposit Insurance law/ Banking Law • c) Governance and Organization • The DICJ shall prepare guidelines in order to manage the business of a bridge bank to ensure the proper performance. And the guidelines are is subject to the approval by the Prime Minister. • The bridge bank must have three (3) executive directors and three (3) auditors (including one or more standing auditor(s) and one or more outside auditor(s)) in line with the Commercial Law. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

18. III. Cases in the Asian RegionJapan/ Current Specification • d) Business Transfer • In general, a bridge bank assumes only good assets and liabilities. • The financial administrator of a failed bank shall determine the assets to be assumed by a bridge bank with the confirmation by the Commissioner of the FSA. • e) Operations • A bridge bank assumes the overall business operations of a failed bank and continue to function as it used to be. • The DICJ as a sole promoter of a bridge bank will appoint the executive management. • A bridge bank mainly consists of the employees of a failed bank. • The DICJ may with the resolution of the Policy Board, issue loans or guarantees of financial obligations. • f) Termination of Bridge Bank • The term is limited to 2 years (possible 1-year extension). • When a bridge bank incurs a loss, the DICJ may compensate losses. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

19. III. Cases in the Asian RegionJapan/ Past Experience BBJ: Bridge Bank of Japan • The first bridge bank was established in March 2002 for the failure of Ishikawa Bank and Chubu Bank. • The Japanese deposit insurance system, at that time, was about to move back to limited coverage system after the temporary measures of blanket guarantee. • It was required by law to determine the acquirers by the end of March for those two banks which failed during the period of the blanket guarantee in order to be applied the full coverage measures; however, the Japanese financial powers found it extremely difficult to seek acquirers for such a short period. • Accordingly the bridge bank was established to assume those two failed banks. • However, the bridge bank did not do any business operation of failed bank because the acquirers of those two failed banks appeared earlier than expected. • But it accepted the assets and liability once then forwarded them to the final acquirers on the same date because the bridge bank, at that time, cannot cancel its contact with the failed bank. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

20. III. Cases in the Asian RegionJapan/ Perspectives Time Constrain under the Bankruptcy Laws and • Time constrain has become more severe in the bank resolution procedure under the limited coverage in Japan. • Under the limited coverage system, the bank resolution will be executed in line with the Bankruptcy Laws, which requires quick solution of corporate rehabilitation including finding acquirers for failed banks. • The bridge bank is supposed to be an indispensable component to meet the requirement. SBBJ: Second Bridge Bank of Japan • In order to meet the time constraint stated above, the second bridge bank the Second Bridge Bank of Japan (SBBJ) has been already established simultaneously with the termination of the first bridge bank in March 2004. • SBBJ has dealt with no bank failure so far and is providing for the potential bank failure in the future. International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007

21. IV. Conclusion Useful Tool in Bank Resolution • Overall, the bridge bank system is a useful tool for a deposit insurer who is entrusted or involved in bank resolution process. • It can add flexibility to bank resolution options to deposit authority. • It can be employed as a part of deposit insurance system in the Asian region. But We Need Further discussion on • A firm legal provision in order to make the mechanism work correctly • Issues of Least Cost Test • How to “market” the bridge bank and to sell at the better price International Conference on Enhancing the Effectiveness of Deposit Insurance Operation, Hanoi March, 2007