postings by Jason Kilborn

Rising Pain in the Heart of Europe

posted by Jason Kilborn

Apparently, statistical agencies all over the world are finally releasing their 2008 bankruptcy data. The AOUSC released its CY 2008 report yesterday, and today, the German agency (DeStatis) released the report for December and CY 2008. As it usually does, DeStatis tried to paint a rosey picture--the headline is "7.1% fewer consumer bankruptcies in CY 2008." This seems to contrast quite nicely with the 31% rise in U.S. bankruptcy filings. But the DeStatis report reveals that business filings rose 13% from a year earlier, and non-business filings rose 12.3% in December 2008 over December 2007, nearly 13% for "pure" consumers (as opposed to former small-business people). The Q4 filings, especially December, show a rapid and troubling spike, and one suspects this will continue in force well into 2009. Hang on!

Consumer Insolvency Filing Pattern Variations

posted by Jason Kilborn

The latest figures for insolvency filings in Sweden are now out.  Somewhat contrary to Bob's observations on U.S. filing patterns in the last quarter of the year, Sweden saw a 21.5% increase in filings in Q4 2008 over Q3 (and a 21.7% increase in filings in Q4 2008 over Q4 2007). Total filings for 2008 were slightly down from 2007 (6528 in 2008, 6831 in 2007, in a country with about 9 million total residents), but 2007 was Sweden's equivalent (actually, opposite) of 2005 in the U.S.--a huge rush of filings occurred in Q1 2007 after the implementation of a reform to make the system simpler and more widely accessible.  The biggest difference between 2007 and 2008 was thus the rate at which the administrative structure made its way through the huge backlog of new cases. The number of orders opening insolvency proceedings rose steadily through 2007 and 2008 and then spiked over 63% from Q3 to Q4 of last year in what appears to have been a major push to clear out old filings. Luckily for Swedish debtors, while the successful admission rate has returned to its historical level of about 55% of filings, the filing rate per 1000 residents has spiked to around 0.75 since the 2007 reform, so nearly 70% more debtors are being successfully admitted to the system now in comparison to two years ago. Unfortunately, very little empirical data exists on the content of the relief granted to these people, but the 2007 amendents have made some form of relief much more widely available and substantially more predictable. This is a trend that has swept over Europe in recent years, quite the opposite of what we've seen here in the U.S. It's tought to make accurate and meaningful comparisons between Europe and the U.S. in these complex systems, but the contrast in direction of reform policy is striking.

The Father of Consumer Bankruptcy in Continental Europe?

posted by Jason Kilborn

I hope some kind CreditSlips reader can confirm (or at least not disprove) what I believe to be my recent exciting discovery. For nearly a decade, I've searched for the stone that caused the very first ripple that became the wave of consumer bankruptcy (i.e., discharge) laws across continental Europe in the 1980s and 1990s, and I think I've found it. Thanks to extraordinary help from Ulrik Rammeskow Bang-Pedersen at the University of Copenhagen, I've identified what I believe to be the first published suggestion that a continental European nation should adopt a specific regime of coercive debt reduction (discharge) for consumers. The comment appeared in a Danish law journal in January 1972, and it was written by a barrister named Frederik Bang Olsen (father of Peter Bang-Olsen, a current lawyer at what formerly was the Bang-Olsen firm, now Ret&RådAdvokater--thanks, Peter, for the background info!). One can clearly trace the development from this comment into a private law reform initiative and report that led to the adoption of the Danish debt adjustment act in May 1984 (the first consumer insolvency law in continental Europe--influenced, but not very powerfully, by the earlier laws in England and the United States).

I have found discussions of debt relief and discharge in other European countries beginning in the 1980s and later, but never anything as early as 1972. France adopted the second consumer debt relief law on the continent on December 31, 1989, but it contained no general discharge provision (yet), and I have not found any evidence that discussions of that law began before the early 1980s. This would explain my fascination (obsession?) with European consumer bankruptcy, as both it and I were born in 1972.

So, three cheers for the father of European consumer bankruptcy, Frederik Bang Olsen! What an amazing story of grass-roots initiative that finally moved past a centuries-old rule (pacta sunt servanda) and changed the world for the better for countless others to follow. Inspiring!

Waiting for H.R. 1106 (a.k.a. H.R. 200/S. 61)

posted by Jason Kilborn

The comment thread from the previous post raises an important point that deserves treatment in its own post: what's the deal with the House version of the mortgage lien stripping bill (H.R. 1106), a vote on which has been postponed due to fears from pushback from "Blue Dog" and "new" Democrats.

First, my two cents: I believe (1) limiting application of this relief to property "that is the subject of a notice that a foreclosure may be commenced" is foolishly short-sighted and a significant restriction that has not gotten much press, but (2) relieving these folks of the idiocy of pre-filing credit counseling is to be roundly praised (perhaps we can be rid of this requirement for all filers in the not-too-distant future, as Sweden did in its 2007 reform of consumer bankruptcy law), (3) the balance of interests is impressive and eminently fair, allowing for reasonable modification of interest rates, extension of repayment term, and a reasonable strip-down of the secured claim, but also allowing for recapture of a declining portion of that loss if values rebound and the home is sold for a profit within 5 years. The big question will be valuation, and I fully expect the banks to push back hard on that question in any future case, probably irrationally, as I've complained elsewhere. As usual in bankruptcy discussions, people just don't get that this law doesn't create losses, it forces banks to acknowledge already existing losses, which is an important prerequisite to getting us out of this financial crisis. Banks' arguments that this law will reduce lending are subject to only two appropriate responses, in my view: if banks reduce lending in response to this law, that would indicate either (1) yet more irrational mismanagement by banks, which makes me feel like nationalization of the home mortgage industry is a more attractive option, along the lines of the full nationalization of the student lending industry in President Obama's budget proposal, or (2) a proper reevaluation of the risk of lending to uncreditworthy borrowers--forcing the banks to engage in the sort of responsible risk management that was needed all along. Heads we win, tails we win. The only losers here are irresponsible banks, who deserve to lose given their mismanagement, and they should no longer be allowed to externalize the negative consequences of their mistakes onto debtors, their families and communities, and society at large. Internalizing negative externalities from irrational creditor action is the primary reason why country after country in Europe adopted consumer bankruptcy systems in the 1980s and 1990s, as I'm writing in an article on the Danish system now.

Second, though I hope and expect this bill will pass next week, the "Blue Dog" Democrats appear to have fallen prey to the Jedi mind tricks of the lending industry lobbying juggernaut. This reminds me of a portion of the late 1980s Eddie Murphy Raw monologue, in which Eddie recounts an exchange with Mr. T. Eddie explains that he had been making fun of Mr. T in an earlier monologue and was accosted by Mr. T when Mr. T found out about this: "I heard you been saying @#$% about me," Mr. T accused. Eddie explains in Raw that, fearing reprisal from impressively scary Mr. T, he decided to use his "Jedi mind trick": he responded calmly, "It wasn't me." When Mr. T retorted that he had heard Eddie saying these things about him, Eddie simply repeated, "It wasn't me." Finally, Mr. T conceded, "Well, well . . . I guess it wasn't you. I pity the fool who's been telling me them lies!" The Bankers Association apparently saw Raw and has effectively applied Murphy's Jedi mind trick on the Blue Dog Democrats (no offense is intended to Mr. T through my comparison between him the weak-minded Blue Dogs).

Comments are wide open--what do you think about H.R. 1106?

U.S. Banks Are Not Alone in Feeling the Pain

posted by Jason Kilborn

In yet another instance of "it's a small world," Royal Bank of Scotland yesterday posted the largest annual net loss in British banking history--£24 thousand million (US$34 billion). Like many U.S. megabanks, RBS (1) suffered from extreme investments in complex financial instruments, especially with its acquisiton of part of the Dutch bank ABN Amro, (2) lent heavily to consumers all over Europe in what I have heard are shoot-for-the-moon risk-fests similar to what we've seen from Citi and other U.S. consumer-heavy lenders, and (3) has already received a partial nationalizing investment (68%) and might be on its way to a full nationalization, all on the heels of impressive profits in 2007 (apparently, Citibank will likely remain only half-way nationalized). Notice that, while the U.S. discussion has focused nearly exclusively on the fallout from bad security investments (CMBS, CDS, CDO, etc.), RBS appears to suggest that significant losses will stem from "consumer loans." This makes me wonder how much pain from poor consumer lending (e.g., credit cards) big banks like Citi are managing to conceal behind the complexities of this financal crisis.

One line in the linked story particularly caught my eye: "The restructuring will leave the bank centered on Britain, with smaller, more focused global operations." This seems to be the approach du jour in many areas--abandoning wild-frontier global expansion and concentrating on familiar markets with more predictable risks (at least ostensibly more predictable). Is the world now no longer shrinking, but indeed expanding again?

Hat tip: Global Insolvency Daily News from ABI

New English Bankruptcy History Archive on SSRN

posted by Jason Kilborn

Actually, it's not really an archive per se, but the long list of collected works by John Paul Tribe, KPMG Lecturer in Restructuring at Kingston University (London) School of Law, is impressive enough to merit its own subject heading in a library collection (also, check out the intriguing ancient bankruptcy images at the Muir Hunter Museum of Bankruptcy, of which Prof. Tribe is the curator). Tribe's work was uploaded to SSRN in January and February, so many may not know of its existence yet--this is a resource not to be missed. Most of the work is historical, a great resource for those of us looking for citations (for academic or persuasive rhetorical purposes) on the earliest history and development of bankruptcy and insolvency in England, including its ever-famous death-penalty roots. Not all of the papers are downloadable (the one entitled Discharge in Bankruptcy: A Comparative Examination of Personal Insolvency Relief is particularly enticing to me, but the full-text paper is not available), but other attractive titles are free for the taking, such as A Definitive Bankruptcy and Related Subject Bibliography: From the Earliest Times to 1899 in Chronological Order and Bacon in Debt: The Insolvency Judgments of Francis, Lord Verulam. Check them out--and Prof. Tribe, if you're reading, please upload the missing papers and share the extraordinary wealth!

United Arab Meltdown & Bailout

posted by Jason Kilborn

It's often shocking how stories emerge from the other side of the globe that seem almost perfectly to echo the U.S. experience. Take, for example, this story, from the front page of the W$J today:

"The cash infusion from the [federal government] comes as [the country]'s once-soaring real-estate market comes crashing down. Falling prices, some down by 50% or more, have burned speculators who never intended to hold on to properties in the first place. Sales have plummeted, crimping cash flow for developers -- which are now scrambling to shed employees, cancel or postpone billions of dollars worth of projects and extend installment plans to avoid missed payments."

This story is not about real estate woes in California or Florida and a Washington bailout, it's about real estate in Dubai and a bailout from the federal capital of the United Arab Emirates, Abu Dhabi, in the form of a $10 billion bond purchase (i.e., a distressed loan!). I have found more than once in recent research that Middle Eastern governments have often resorted to bailouts in response to private sector distress, easing the pressure on the legal system to provide an effective bankruptcy-like remedy.

This latest round of crises (and a decline in oil prices) may well push the region more forcefully toward effective insolvency systems instead. Dubai adopted its own new insolvency law in 2004, modeled on British law. Perhaps due to the rising market and government proclivity for bailouts, the Dubai law saw its first winding-up hearing only in September 2007, and I have found no evidence of its use as of yet for a company voluntary arrangement. This may be on the horizon, though, as the largest Dubai developer recently sought Chapter 11 relief for its U.S. arm. The W$J article linked above mentions a surprising increase in debt collections actions in Dubai, which may well increase pressure for a collective and broad-based legislative mechanism for relief, perhaps even for individuals.

The farther away you go, the more things seem like home!

Financial Distress Has No Borders

posted by Jason Kilborn

The Swedish word designating a corporation is aktiebolag (lit., "stock company"), abbreviated "A/B." This A/B represents the last two letters in the name of one of Sweden's most beloved companies, Saab (Svenska Aeroplan A/B, Swedish Airplane Co.), which took a nose dive into bankruptcy by filing a request for reorganization today, which was approved by the Vänersborg district court in southwestern Sweden. Though the plan seems to be to consolidate company operations in Sweden, I strongly suspect that Saab has assets (and creditors) in a variety of countries, including the U.S. How will the Swedish bankrutpcy filing affect assets and creditors' efforts to grab those assets outside Sweden?

This kind of question involving the cross-border effects of bankruptcies by multinational businesses has become more common in recent years, and specific legislation and/or judicial practice has been evolving quickly in the area of international bankruptcy. As for the effect of the Swedish case in the U.S., for example, perhaps the only good news from the 2005 amendments to U.S. law was the inclusion of a new Chapter 15 on harmonizing the cross-border aspects of international bankruptcies. I wonder if we'll see a Chapter 15 petition in Detroit, New York, or Delaware for recognition of the Swedish restructuring in the next days and weeks.

For a fabulous illustration and discussion of how such applications are analyzed, the new opinion In re Betcorp. by Judge Bruce Markell in the Bankruptcy Court for the District of Nevada is a must-read. Judge Markell clearly and convincingly analyzes whether Betcorp's Australian winding-up proceeding is a "foreign proceeding" within the terms of Chapter 15, and more importantly whether the Australian case is a deference-worthy "main proceeding" because Australia is Betcorp's "center of main interests" or COMI. These questions and the answers will surely arise in the U.S. with increasing frequency in the years to come, especially in this era of worldwide financial distress.

Shameless plug alert! About a year ago, Judge Markell kindly invited me to join him and another major world expert, Bob Wessels of the University of Leiden in the Netherlands, in co-authoring a book on the past, present, and future of cooperation in international bankruptcy cases. The invitation was an incredible honor for me, and writing this book was an absolute joy--I must say, I believe we've produced quite an engaging and useful resource. Our editors at Oxford University Press tell us that they sent the book to press this week for expected delivery in mid- to late-March. The table of contents is available here, on Bob's weblog (which itself is an invaluable resource for cross-border insolvency issues). You can get a taste of the book early by reading this excerpt from Chapter 3, as well.  Enjoy!

Reorganization Is the Worst Option . . . Except For All Others

posted by Jason Kilborn

The tried and true criticisms of bankruptcy procedures that salvage jobs while forcing creditors to internalize losses are making the rounds again. People just don't understand. In England, in particular, the financial press is all over "pre-packs" that allegedly allow "debt dodgers to revel in return of the phoenix" as companies are sold in fast-track reorganization procedures. The problem with breathless criticisms of these procedures--now attracting legislative attention in Britain--is that they seem to be based on the false premise that the alternative would be superior. Ironically, Churchill's tongue-in-cheek appraisal of Democracy applies in like manner to the pre-pack procedure in particular, and reorganization generally.

I know I'm preaching to the choir in making this observation on CreditSlips, but I just don't understand how sophisticated financial reporters can miss the point so badly. The challenge repeated in the linked stories above is that the procedure for allowing troubled companies to be sold (often to private equity, often to investors already associated with the business) somehow allows the management of these businesses to evade personal responsibility and improperly externalize losses onto small businesses, in particular (the darling of all conservative, anti-bankruptcy rhetoricians). The "moral turpitude" bent of these criticisms is explicit, but morality must be based at least in part on reality, it seems to me. These stories seem to miss that (1) the sale proceeds must be distributed to creditors, unless I'm totally missing something with respect to U.K. and other pre-packaged reorg procedures, (2) since the middle of the 1800s, general corporation law has shielded management and shareholders from personal liability to creditors, bankruptcy or not, and (3) the result for small business creditors would be in probably every case worse without a pre-pack, since secured creditors and other large, institutional investors would eat up most of the value of the business in a bankruptcy distribution, especially since a piecemeal liquidation bankruptcy would tear apart the going concern value of the business--and European law often requires management to seek this liquidation bankruptcy as soon as it becomes clear that the company is insolvent! What is a "moral" manager supposed to do? Creditors are getting the value of the business (defined by a market sale mechanism, the result of new money, be it from old management or not), which is rather clearly enhanced by an honestly conducted pre-pack. If the challenge were that pre-packs were being administered improperly (by public authorities), that would be one thing, but the challenge seems to be, instead, that pre-packs are being used improperly, which totally misses the mark, it seems to me.

These commentators are not comparing apples to oranges, they're comparing apples to unicorns! Yes, the result for small business creditors in these cases may well be sour apples, but the alternative is not a magical ride on a unicorn--it's no apples at all.

U.S. No Longer "Most Liberal" Consumer Bankruptcy System?

posted by Jason Kilborn

Unlike Bob, I am not a statistics wizard, but like him, I like to follow consumer bankruptcy filing trends. Since 2005, I've been following these trends with an eye toward deciding where the U.S. stands among the "most liberal" consumer debt relief systems. Before the 1990s, only a handful of countries offered consumers any formal relief from debt, but since then, and especially in the past few years, consumers have flocked to a series of new and increasingly forgiving systems, especially in Europe.

Take, for example, France. The just-released 2008 filing figures for the French system of "consumer overindebtedness" (surendettement des particuliers) show that France passed an important landmark last year. In February 2004, the administrative commissions in charge of delivering relief to overburdened consumers in France started referring the most hopeless cases to a new track that is functionally equivalent to a U.S. Chapter 7--theoretical (but not practical) liquidation of valuable assets followed by immediate discharge. This new "procedure for personal re-establishment" (procédure de rétablissement personnel) got off to a slow start, with only about 11% of all fully administered cases in 2004 diverted to this more aggressive form of relief, but by 2008, that figure had almost doubled, surpassing the 20% mark for the first time (21% of the nearly 160,000 fully administered cases were diverted to the PRP last year).

Particularly disturbing for those who continue to insist that private ordering is the better approach, the percent of cases concluding with a consensual, creditor-accepted workout fell to 55% this past year, down from about 65% in 2006 and earlier years. Creditors, it seems, are increasingly happy to wait and see what the formal, coercive system brings, rather than agreeing to write down obviously uncollectible debts. This pattern has repeated itself in every major consumer debt relief system I've observed, and Nick Huls and Nadja Jungmann, in particular, have written some great stuff attempting to explain this phenomenon in the Netherlands (sorry--I couldn't find any internet examples for a link).

The ostensibly more rigorous European systems are offering relief to lots of people in exchange for no payment: about 80% of some 100,000 consumer insolvency cases in Germany, and about a third of some 2500 cases annually in Sweden, for example. With the corresponding figure rising in France annually, and especially in light of the headaches that the BAPCPA have caused in the U.S., it is no longer altogether clear that the U.S. offers the "most liberal" consumer debt relief today. More debts are nondischargeable in the U.S., and the budgets that the IRS guidelines allow are in many cases less "livable" than those offered by similar guidelines in Europe. This is a developing story, but we in the U.S. can no longer comfort ourselves after the latest round of backpeddling consumer bankruptcy reforms by saying "at least it's still easier to get relief here--look at those poor schmoes in Europe!"

Scandinavian Home Mortgage Lien Stripping

posted by Jason Kilborn

It seems increasingly likely that we'll see a reform of U.S. law to allow home mortgage loans to be stripped down (or crammed down, if you prefer) to the value of the home. I was surprised to learn recently that this issue had been debated in Scandinavia, and Nordic experience confirms that the factual predicate for such relief is present in the U.S. today.

In European consumer insolvency systems, secured debt is generally set entirely apart from the relief system. Debtors have two choices--pay secured debts as contracted (if, indeed, the debtor is allowed to make such payments within the confines of the plan for paying unsecured debts) or lose the collateral. When Danish reformers set out to amend their first-on-the-continent consumer insolvency system (adopted in 1984), the reform commission made what appeared to me to be a comparatively radical proposal--to allow the debtor to strip down home mortgage debt to the value of the home (as determined by court-appointed valuation experts). While Scandinavian reform commission proposals usually fly through government and then legislative approval, the mortgage stripping provision was removed immediately by the Justice Ministry from the bill that would become the Danish consumer bankruptcy reform of 2005 (yes, they had a 2005 reform, too!). Representatives of judges and lawyers supported the proposal, but finance and mortgage credit representatives strongly opposed it (surprise!), objecting that this measure failed to take sufficient account of lenders' interests and concentrated on them the risk of price deflation based on macro-economic forces beyond anyone's control. The Justice Ministry hesitated to embrace this proposal without a closer empirical examination of the problem (!), so the provision was removed in light of the fundamental position of secured creditors and the proper balance between debtors and creditors that lies at the base of the consumer insolvency system.

Oh, well, I thought--not surprising given that Nordic housing prices had not suffered the free-fall that we had expeienced in the U.S. Then I learned that Norway apparently has had a mortgage lien stripping provision in its consumer bankruptcy law for over a decade. This fascinating discussion among several Nordic lawyers notes the exceptional Norwegian provision and explains that it was adopted on the grounds of a dramatic fall in home prices in the early 1990s along with the fact that about 90% of Norwegian households own their own home. The Danish commentator observes that the corresponding figures in Denmark, especially for those who find themselves in the consumer insolvency system, are much smaller.

It seems to me that the U.S. is much more like Norway in this regard--we've suffered a dramatic decline in house prices, and a significant portion of households own their homes (I seem to recall that the Consumer Bankruptcy Project revealed that about 50% of consumer debtors in the U.S. bankruptcy system own their homes). The time appears ripe for the U.S. to reject the Danish bankers' position and join Norway in forcing a rational write-down of mortgage debt in bankruptcy. Even if it's not a U.S. innovation, it will be a welcome development.

Islamic Bankruptcy?

posted by Jason Kilborn

Thanks so much, Bob, for the extremely gracious introduction.  I wish my knowledge of bankruptcy law were as capacious as Bob suggests. I'm working hard to live up to Bob's description in the narrower realm of consumer debt relief, but for comparative business bankruptcy (in the broad sense, including reorganization), I turn to Philip Wood, whose work I recommend heartily to CreditSlips readers.

One area where even Wood finds his knowledge limited is in the treatment of financial distress in the Islamic world. That gap and the important task of filling it has really peaked my interest in recent months. As I mentioned at my primary blog home, I have spent some time recently with some great work on Islamic law, business, and finance. At the same time, I have begun slowly to make headway in the specific (and underexplored) area of debt relief. Where better to begin to look, I thought, than the font and principal steward of Islam today, Saudi Arabia. Much to my surprise, I found that even in light of the strict Islamic finance law prohibitions on interest (riba), even The Kingdom has acknolwedged a need for debt relief for small business people as an alterative to liquidation bankruptcy. Already in 1996, Royal Decree No. M/16 of 4/9/1416H introduced a system to encourage debtors to seek collective settlements with creditors through the intermediation of a special organ in the Jeddah Chamber of Commerce, the Bankruptcy-Avoidance Ombudsman (diwaan al-maDHalim). On paper (or so my Google translation of the Decree suggests), the process resembles a European-style "accord" process, where the debtor remains in possession, and dissenting creditors can have a majority-approved plan (even one including a discharge of debt) crammed down on them! My sense is that this radical innovation has not met with a warm reception, as creditors continue to rely on the powerful lever of imprisonment for debt, and even the adminstrative authorities have moved slowly to implement the new process. The Ministry of Trade and Industry put in place the regulatory framework only in 2004, with decree no. 12 of 14/7/1425H, and the first conciliation commission was nominated only in May 2007. The Jeddah Chamber of Commerce chariman explained that the new procedure represented official acknowledgement of the fact that financial distress in the modern world emanates not from laziness or stupidity by debtors, but from inevitable external risks associated with more intense global economic competition. This from one of the most tradition bound nations in the world!

The world of bankruptcy/insolvency is changing, and an eye for comparative developments makes that eminently clear. As the U.S. whittles away at the protections and effectiveness of bankruptcy/reorganization, much of the rest of the world embraces the advantages of such protections. I, for one, hope that a new U.S. administration and legislature will move U.S. law back to its rightful leadership position in this area.

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