**RESOLUTION OF FAILED INSTITUTIONS**

**Abstract**

The timely and effective resolution of failed insured institutions is an
important element in financial safety-net arrangements. Different exit
strategies for such institutions may have considerably different cost
implications for the deposit insurer and implications for other
safety-net participants, the government, public, banking industry, and
economy. Cooperation among the various safety-net participants, both
before and after failure, is essential if timely and effective
resolutions of failed institutions, particularly large insured
institutions, are to be accomplished.

This paper was prepared in response to requests from representatives of
numerous countries that participated in the Working Group\'s outreach
programs. The purpose of the paper is to describe the main issues
relating to the resolution of troubled institutions. The paper is not
concerned with any questions relating to where in the financial safety
net the authority for resolutions should reside. The responsibilities of
deposit insurers for various aspects of resolution activity are likely
to be country-specific, reflecting their particular mandates. However,
regardless of the specific responsibilities of the deposit insurer in
any particular country, the manner in which troubled institutions are
resolved can have a major effect on the funding requirements and other
aspects of the deposit insurer\'s operations.

**RESOLUTION OF FAILED INSTITUTIONS**

The timely and effective resolution of failed insured institutions is an
important element in financial safety-net arrangements. Different exit
strategies for such institutions may have considerably different cost
implications for the deposit insurer and implications for other
safety-net participants, the government, public, banking industry, and
economy. Cooperation among the various safety-net participants, both
before and after failure, is essential if timely and effective
resolutions of failed institutions, particularly large institutions, are
to be accomplished.

This paper was prepared in response to requests from representatives of
numerous countries that participated in the Working Group\'s outreach
programs.[^1] The purpose of the paper is to describe the main issues
relating to the resolution of troubled institutions. The paper is not
concerned with any questions relating to where in the financial safety
net the authority for resolutions should reside. The responsibilities of
deposit insurers for various aspects of resolution activity are likely
to be country-specific, reflecting their particular mandates.[^2]
However, regardless of the specific responsibilities of the deposit
insurer in any particular country, the manner in which troubled
institutions are resolved can have a major effect on the funding
requirements and other aspects of the deposit insurer\'s operations.

**Pre-Resolution Activity**

Before a troubled financial institution reaches the point where
resolution is necessary, it generally has been the object of various
efforts to strengthen its operations. Such actions may have included
restructuring efforts that, in broad outline, are similar to resolution
transactions, in that they involve a merger with, or acquisition by, a
healthy institution. These efforts frequently are described as
\"private-sector\" solutions and do not impose a cost on the deposit
insurer or the government.

**Private-sector solutions**

Healthy institutions may be willing to combine with weaker ones in a
number of situations. However, if financial inducements are required to
attract an acquirer, such inducements in a private-sector transaction
generally result from concessions made by creditors or owners of the
troubled institution, rather than from outlays by the deposit insurer.
As a result, successful private-sector solutions may be viewed
essentially as \"no-cost resolutions\" from the standpoint of the
deposit insurer.

Owners and creditors of a troubled institution often have strong
incentives to accomplish a merger or acquisition, because their losses
generally will be greater if the institution continues to deteriorate
and fails. On the other hand, they may be slow to acknowledge the
seriousness of the institution\'s condition and reluctant to yield
control of the institution, or make the concessions necessary for it to
be an attractive acquisition or merger partner for a healthy
institution. Owners of troubled institutions may have little incentive
to explore private-sector solutions unless they perceive that the
authorities may close the institution if such solutions cannot be
arranged. As a result, private-sector solutions cannot always be
accomplished without the active participation of the relevant safety-net
participants even though the deposit insurer bears no cost.

The legal authority of the responsible safety-net participants differs
among countries and, in some countries, limits their ability to play a
role in private-sector solutions for troubled institutions. In other
cases, the safety-net participants may bear significant legal exposure
to creditors dissatisfied by the terms of the merger or acquisition. In
some countries, owners of troubled institutions may have taken legal
action against the resolution authority for closing an institution and
officials of the authority faced personal liability.[^3] Such a legal
environment may have the effect of permitting troubled institutions to
continue to operate for lengthy periods of time and, therefore, may
reduce incentives of owners of such institutions to find private-sector
solutions.

In such cases, the responsible authority may only encourage or exert
pressure on the troubled institution to initiate its own attempted
solution. (Monitoring of the efforts of the bank is necessary to ensure
that any \"solution" does not include increased risk-taking.) In other
countries, the legal authority is broader and may permit the appointment
of administrators to replace the directors of the troubled institution
and take over its operations. In some situations, credit may be advanced
on a secured basis to meet the liquidity needs of the troubled
institution while a solution is being sought.

Private-sector solutions require that action be taken early while
acquirers are still willing to take over the troubled institution. They
presuppose the existence of healthy institutions, which have the
financial and managerial capabilities to combine with weaker ones and
are acceptable to the authorities. Whether, and to what extent,
foreign-owned banks are eligible to serve as acquirers are important
factors in some countries. Well-developed arrangements for monitoring
and overseeing such solutions are necessary. Also needed is a legal
environment that balances creditor and shareholder rights with the
authority of the safety-net participants to participate constructively
in private-sector solutions.

In countries where legal and other conditions are not conducive to
private-sector solutions, troubled banks may continue to deteriorate and
eventually will have to be resolved by the responsible authority, with
deposit insurers bearing the cost.[^4]

**Timing of action**

Private-sector solutions depend on early action to prevent further
deterioration in the condition of the troubled bank; otherwise, healthy
institutions may refuse to participate. Early action also may reduce
resolution costs if the private-sector effort is unsuccessful and the
institution has to be resolved. The experience of many countries has
been that delay in addressing the problems of troubled institutions may
make the avoidance of failure more difficult and may increase
significantly the ultimate cost to the deposit insurer.

Some countries have adopted statutory provisions requiring early
intervention or prompt corrective action for troubled institutions. Such
provisions may be based on the capital position of the troubled
institution or on other criteria, and require the responsible authority
to restrict the activities of the institution and ultimately to
terminate its operations according to some objective measure. In many
cases these provisions were adopted to prevent the responsible authority
from delaying action in the hope that external events would bring about
an improvement in the institution\'s condition or for other reasons.
Statutory prompt-corrective-action provisions that require certain
actions by safety-net participants may make those actions less
politically contestable.

On the other hand, some countries have concluded that such statutory
provisions limit the discretionary authority of safety-net participants,
which may be needed in periods of financial instability when a
significant portion of the banking industry has been weakened, and
actions taken with respect to one institution may destabilise other
institutions. The trade-off between rules and discretion is a difficult
issue, to which there appears to be no universal solution that is
applicable to all countries.

**Information needs**

Another pre-resolution activity of major importance to deposit insurers
is the maintenance of accessible asset and liability information in
order to expedite the resolution of the institution and help ensure that
depositors have prompt access to insured funds. This includes
information that will identify the owners of deposit accounts and permit
the aggregation of balances for purposes of determining the amount
covered by insurance. It also includes asset information needed by the
resolution and liquidation authorities for the valuation of assets,
least-cost calculations, and formulation of asset disposition plans.

Maintaining such information in accessible form involves a cost to the
institution. As the financial viability of the institution diminishes,
the accuracy of its records also may diminish. As a result, enforcement
of record-keeping requirements may be needed.

Finally, deposit insurers and resolution authorities need to be notified
promptly of an impending failure if the commitment to insured depositors
is to be met expeditiously. Ideally, the deposit insurer should be
notified well in advance of the date of failure so that preparatory work
can proceed on a timely basis.

**Resolution Options for Failed Institutions**

If private-sector solutions have not been successful, a determination is
typically made that an institution has failed. This determination should
be made on the basis of well-defined criteria by a safety-net
participant with the authority to act for this purpose. Criteria used in
different countries include determinations that an institution is
insolvent, has capital below some critical level, is operating in an
unsafe-and-unsound manner or fails to meet some other established
standard that defines failure. With respect to the latter, some
countries require action by safety-net participants when the institution
is unable to repay funds received from the public according to the
legal, regulatory and contractual conditions governing their
payback.[^5] Such determinations may be made by the chartering or
licensing authority, the court system, through action to terminate
deposit insurance, by the governing bodies of the institution, or by a
general meeting of shareholders. These procedures are generally followed
by some type of resolution transaction that usually involves a financial
loss to the deposit insurer.[^6]

This section of the paper will examine: (1) the objectives that guide
resolution strategy; (2) types of resolution transactions; (3)
procedures for selecting resolution methods and acquirers of failed
institutions; and (4) the staffing of resolution activities.

**Guiding objectives**

A general objective that guides resolution strategies in most countries
is to act quickly so that insured depositors have prompt access to their
funds and the value of the failed institution\'s assets is preserved to
the extent possible. More-specific objectives generally can be grouped
under three headings. First, resolution activity may take as its primary
objective the disposition of failed institutions in a manner that
minimises resolution costs. Second, in particular situations, resolution
strategies may be designed to avoid problems associated with failures of
large and complex institutions. Third, resolution strategies may seek to
avoid interruptions in the provision of banking services in particular
markets or regions.

Which of these objectives is primary in any particular situation is
spelled out in the statutes of some countries. For example, the statute
may require that all resolution transactions must meet a least-cost
test, except in specified types of situations where certain other
considerations may prevail. Such statutory provisions are generally
designed to set boundaries on the discretion of resolution authorities
to choose among resolution methods.

*Least cost*

As used in this paper and applied in the resolution policies of many
countries, the term \"least cost\" refers to the cost of meeting the
deposit insurer\'s commitment to the depositors of an individual failed
institution, taking into account the projected proceeds from the
disposition of the institution\'s assets. Countries that utilise cost
tests in resolution activity generally do so in order to provide an
objective means of choosing among resolution methods and to foster
transparency and accountability in the resolution process. As noted
later in this paper, however, resolution activity may be guided by other
considerations in some situations.

A least-cost resolution is one that results in the lowest cost to the
deposit insurer and/or the government.[^7] In general, only insured
depositors are fully reimbursed or protected under a strict least-cost
resolution. [^8]

A less-stringent cost test that has been used in some countries is that
the resolution cost associated with a particular resolution method must
be less than the cost of a liquidation and reimbursement of depositors\'
claims (also referred to as a deposit payout). This test often permits
resolution methods that fully reimburse or protect uninsured depositors
and other creditors.

The difference between the two tests bears emphasis. Least cost means
literally that the chosen resolution method must be the *least expensive
to the deposit insurer of all possible resolution methods.* The
less-stringent cost test means that the chosen method merely has to be
*less expensive than the cost of a liquidation and reimbursement of
depositors\' claims.*

Resolution costs generally are measurable on an estimated basis,
although in some countries the necessary information may not be readily
available. The chief information necessary to make least-cost
calculations includes: the amount of insured deposits, estimated net
recoveries on assets, off-balance-sheet assets and liabilities, claims
of uninsured depositors and other creditors (including claims arising
from litigation and off-balance-sheet liabilities), and any premium that
may be offered by a potential acquirer of the failed bank. Essentially
the same information is required to meet either of the two cost tests.
Using appropriate rates to discount future cash flows to present values
takes account of variations in risk and timing among different
resolution and asset disposition methods.[^9]

An implicit assumption in cost-test calculations is that the resolution
of one failed institution will not affect the cost of subsequently
resolving other institutions. This is most likely to be true in
countries where occasional bank failures are regarded as a normal
occurrence and the failed bank does not represent a major proportion of
the banking industry. The cost test also may not adequately take into
account potential nonfinancial costs such as the legal exposure of the
resolution authority in certain resolution transactions.

*Large-bank failures*

Large institutions often have been resolved in ways that are not
designed primarily to minimise resolution costs, as defined in this
paper, because of their perceived special significance from the
standpoint of maintaining financial stability or for other reasons. In
such cases, the safety-net participants sometimes have protected
uninsured depositors, other creditors, and even shareholders. As noted
in the paper on moral hazard, some of these practices may weaken market
discipline and increase moral hazard. Providing more generous protection
to particular institutions also may be perceived to be unfair to
shareholders of banks that are resolved by least-cost methods. As is
frequently the case, a trade-off exists between the discipline provided
by the least-cost objective and efforts to avoid the effects of
large-institution failures.

Failures of large banks often have been treated differently than
failures of small banks in a variety of economic and financial
scenarios. In some countries, the statutes specify the circumstances
under which the objective of avoiding the potential destabilising
effects of large-bank failures may override least-cost considerations.
In this regard, the report of the Study Group on Deposit Insurance
stated that \"deposit insurance systems are not designed to cope with
systemic financial crises by themselves. The resolution of systemic
crises requires broad, coordinated government action.\"[^10]

*Avoiding interruptions in banking services in particular markets or
regions*

Safety-net participants may seek to avoid interruptions in the provision
of banking services in particular markets or regions. Such an
interruption may occur where alternative banking facilities are not
readily available and if the institution is resolved through a deposit
payout---generally because a merger with, or acquisition by, a healthy
institution cannot be arranged. The failing institution may have little
franchise or \"going-concern\" value, its market area may be
economically unattractive to potential acquirers or merger partners, the
institution may pose unusual risks that acquirers are reluctant to
assume, or there may be institutional or legal barriers to potential
acquirers or merger partners. Accommodating customers of such
institutions through the resolution process may require more-costly
resolution methods than otherwise would be undertaken.[^11] Once again,
the resolution authorities may be confronted by a trade-off between
competing objectives and choices among these objectives may be governed
by statute.

**Types of resolution transactions**

Once it is determined that an institution has failed, or is in danger of
failing, and private-sector solutions have not been successful, there
are basically three options for its resolution. The institution can be
liquidated, sold, or assisted to prevent its failure.

The relevant terminology may differ among countries, and there are many
variations of these basic resolution options. For example, an
institution in one country is currently being resolved through a deposit
payout in an open-bank scenario, with liquidity support provided on a
secured basis from the deposit insurer. In this paper, the various
resolution methods are grouped under three headings: liquidation and
reimbursement of depositors\' claims; purchase-and-assumption
transactions (sales); and open-bank financial assistance. Existing
bankruptcy/insolvency and other laws may influence heavily the choice of
resolution methods. Such laws vary considerably among countries and, in
some cases, may make a particular resolution method difficult to
implement. Because of the special significance of banks and bank
failures, countries may wish to review bankruptcy/insolvency laws from
the standpoint of whether such laws facilitate the orderly exit of
troubled institutions.

*Liquidation and reimbursement of depositors\' claims (deposit payout)*

Reimbursement of depositors\' claims may be accomplished by the deposit
insurer directly paying depositors their insured balances or by
transferring the accounts to another institution that makes the insured
balances available to the depositors.[^12] The institution is closed
(license or charter extinguished) and the assets and uninsured claims
are transferred to a receiver for liquidation and settlement.[^13] As
suggested above, liquidation generally is selected as the resolution
method because an acquisition of, or merger with, the failed bank is
unattractive to other parties.

*Purchase-and-assumption transactions (sales)*

In a purchase-and-assumption (P&A) transaction, a healthy
institution[^14] assumes some or all of the obligations, and purchases
some or all of the assets, of the failed institution. P&As can be
structured so that the acquirer assumes all deposits, insured deposits,
or is offered an opportunity to bid for both. Where discretion exists,
the decision whether to protect uninsured as well as insured depositors
is perhaps the most crucial decision to be made in a P&A transaction.
[^15]

A number of other decisions also have to be made in structuring a P&A.
First, the eligibility of various potential acquirers must be
determined, as is the case in any other acquistion. Clearly, acquirers
must be healthy institutions or a group of investors with sufficient
resources to acquire and operate the failed institution and qualified
management. In addition, whether and to what extent foreign institutions
are eligible, are important questions in some countries, and may involve
issues of control, competition with domestic lenders, as well as funding
considerations.

Second, decisions have to be made regarding the assets to be offered to
the acquirer. Typically, these include performing loans and other
good-quality investments. Whether nonperforming and other risky
investments are included depends frequently on the capability of the
acquirer and whether loss-sharing or other financial inducements are
offered, as discussed below. Assets not sold to the acquirer at
resolution are usually passed on to the receiver for liquidation.

Variants of a purchase-and-assumption transaction include the \"bridge
bank\" or other interim arrangement, which have been used primarily for
failures of large and complex institutions. In a bridge bank or similar
interim transaction, the responsible safety-net participant takes
ownership or control of the failed institution and operates it for a
period of time. Control may be exercised directly through outright
ownership of the failed institution by the resolution authority, or
indirectly through a separate body or organisation.[^16]

The chief objectives of a bridge or similar interim arrangement are to
prevent further deterioration of the institution, give the safety-net
participants more time to seek a permanent resolution, and provide
potential acquirers a greater opportunity to review the loan portfolio
and other operations of the institution. As a result, acquirers may
offer higher bids, leading to lower resolution costs, than if the
institution were resolved immediately after failure. A bridge bank may
be used for transactions that fully protect only insured depositors or
in transactions that provide various degrees of protection to other
depositors and creditors.

Provisions for maintaining the liquidity of the institution during the
bridge-bank period may be necessary. If the institution remains too long
under official control it may lose value as customers seek alternative
providers of banking services and important operations wind down. In
some cases, the authorities may be tempted to put the resolution process
\"on hold\" once they have control of the institution. The vehicle
potentially could be used to postpone a permanent solution unduly, with
the likely results that the value of the institution might deteriorate
further and the cost of a permanent solution might increase. As a
result, some countries have limited the length of time that a bridge
bank may remain in operation.

*Open-bank assistance*

Assistance may be provided to an operating institution that is in danger
of failing. This assistance may take the form of a direct capital
infusion, purchase of troubled assets, loans to the institution, or
loss-sharing arrangements. The deposit insurer or other authority that
provides the assistance may (in some countries must) retain ownership
rights in the restructured institution. Additional capital from outside
investors and replacement of managers and directors may be required.
Uninsured depositors and certain other creditors generally are fully
protected, although shareholders may bear significant losses.
Subordinated debtholders also may suffer losses, although in some
countries such a result might expose the deposit insurer to significant
legal exposure from dissatisfied creditors. Open-bank assistance has
been provided mainly to large institutions when it was believed that
closing the institution and imposing losses on uninsured depositors and
other creditors would pose significant risks for financial markets and
the economy.

Open-bank assistance has certain consequences deemed to be undesirable
in some countries. The institution\'s bondholders and shareholders
retain some bargaining power in dealing with the authorities, which
could cause undue delay in completing the transaction. In some
countries, assistance to an operating institution is regarded as a
subsidy.[^17] Deposit insurers or the resolution authorities in some
countries may be empowered and expected to recover any financial
assistance they have provided. In other countries, it is expected that
open-bank transactions will involve a cost; the resolution authority may
recover part of the assistance that it provided if it retains ownership
rights and the assisted institution prospers.

In a closed-bank transaction, claims of bondholders and shareholders
typically pass to the receiver. Depending on the legal system,
closed-bank transactions also may have other advantages over open-bank
assistance.[^18] Finally, small institutions that may be ineligible for
open-bank assistance, may believe they are treated unfairly.

**Procedures for selecting and implementing resolution methods**

The procedures for selecting and implementing resolution methods vary
among different countries. For example, the procedures that may be used
effectively in a particular country are likely to depend on the number
of potential acquirers, the frequency of bank failures, public attitudes
toward bank failures, the stage of development of asset markets, and
other matters. This section discusses only those issues that are likely
to be common among a number of countries.

*Assets offered for sale*

When a financial institution fails and is offered for sale, various
decisions must be made with respect to the nature and amount of the
assets offered. These may include the failed institution\'s total
assets, high-quality assets, or pools of similar assets. If low-quality
assets are offered for sale, consideration may be given to loss-sharing
arrangements between the acquirer and the resolution authority, or to
put-back provisions that allow the acquirer to return assets within
specified periods at specified prices. Branch systems may be offered in
their entirety, in clusters of branches, or as individual offices.

Although the theoretical range of possibilities is wide, practical
considerations may limit the choices in many countries. Some
alternatives are highly labor-intensive and may not be feasible where
the deposit insurer or other responsible authority has a limited staff.
Countries that have undeveloped markets for troubled assets may seek to
pass such assets to the acquirer of the failed institution and may have
to offer substantial inducements to compensate for the risk undertaken
by the acquirer. On the other hand, some countries have established
centralised asset-liquidation agencies that purchase risky assets from
failing and other institutions for subsequent disposition. Countries
with a small number of insured institutions and infrequent failures may
not have first-hand experience in choosing among complex alternatives.

*Competitive bidding versus negotiated sales*

Selections among alternative resolution methods and, if the failed
institution is sold, among potential acquirers may be made through a
competitive auction process or by private negotiation with the
acquirers. Competitive bidding has the advantage of greater transparency
and higher prices in some cases, but may not be necessary or useful if
there is only a small number of potential acquirers. In such countries,
direct negotiations between the responsible safety-net participant and
the few eligible acquirers may produce the best results.

*Providing information to potential acquires*

In principle, the greater the information available to potential
acquirers, the less expensive the resolution is likely to be to the
deposit insurer. Absence of relevant information may induce potential
acquirers to offer very low bids in order to protect themselves against
risks that they are unable to evaluate properly. Although maximum
availability of information may be advantageous to the deposit insurer,
there may be a conflict with bank-secrecy laws that protect the
confidentiality of information before the actual closing of the
institution. In some countries, potential acquirers must enter into
confidentiality agreements in order to have access to such information.

*Marketing failed institutions*

A failed institution may be marketed publicly or privately. Widespread
marketing makes the process more transparent and may increase the number
of bidders. However, in countries with only a limited number of eligible
domestic acquirers and/or restrictions on entry by foreign banks, public
marketing may not serve a useful purpose. Moreover, if the public is not
prepared for bank failures, widespread marketing may have unfavourable
public reactions. Marketing an institution before failure may also cause
liquidity problems. Once again, country-specific circumstances are
likely to shape marketing efforts.

**Staffing considerations**

When financial-institution failures occur in waves, the deposit insurer
and other safety-net participants face staffing challenges. Government
work rules may preclude the hiring of temporary employees to handle peak
workloads. In such situations, outside contractors may be engaged.
Alternatively, another financial institution may assume the
deposit-payout and asset-liquidation functions for a particular failure
for a fixed period on a fee basis. If outside contractors or agents are
used extensively, provisions should be made for their oversight to
ensure that the activities of the contractor or agent are closely
aligned with the objectives of the deposit insurer and
conflict-of-interest rules are in place and enforced.

**Conclusions**

The timely and effective resolution of failed institutions is an
important element in financial safety-net arrangements. Different
strategies for resolving failures may have considerably different cost
implications to the deposit insurer and different implications for other
safety-net participants, the government, public, banking industry, and
economy. Cooperation among the various safety-net participants, both
before and after failure, is necessary if timely and effective
resolutions of failed banks, particularly large banks, are to be
accomplished.

In some situations private-sector solutions may be used to accomplish
mergers and acquisitions of troubled institutions, although often with
the involvement of the responsible safety-net participant. If such
solutions are not feasible or successful, resolution of the institution
is necessary, generally at a cost to the deposit insurer. Resolution
strategies are guided by a number of objectives: minimise costs, address
large-bank failures, and avoid interruptions of financial services.
Which objective is primary in particular situations is governed by
statute in some countries.

Three main resolution options are available: the troubled institution
may be liquidated, sold, or assisted to prevent its failure. Numerous
variations of these main options are used in different countries.
Procedures for resolving troubled banks and staffing requirements also
are likely to differ in various countries, depending on the frequency of
failures, the number of qualified acquirers, the availability of
developed markets for assets, public attitudes toward bank failures, and
other factors.

[^1]: This paper represents the work of the Subgroup on Failure
    Resolution, which is comprised of representatives from the United
    States (coordinator), France, Hungary, Italy, Japan, and the
    International Monetary Fund.

[^2]: The mandates of deposit insurance systems and the linkages of
    these mandates to the public-policy objectives, roles and
    responsibilities, and legal powers of the systems are discussed in
    the papers on structure and organisation and powers.

[^3]: The report of the Study Group on Deposit Insurance indicated that
    holding employees of deposit insurers or other agencies liable for
    actions taken on behalf of their organisations was \"a serious
    impediment to performance and to fulfiling mandates.\" The Study
    Group \"recognised the advantages of statutory indemnification
    against legal liability that has been provided in some countries.\"
    Financial Stability Forum Working Group on Deposit Insurance, *A
    Consultative Process and Background Paper,* June 2000.

[^4]: A resolution may be defined as a disposition plan for a failed
    institution, which is directed by the responsible safety-net
    authority, and is generally designed to reimburse fully or protect
    insured depositors while minimising costs to the deposit insurer. In
    most cases (other than open-bank assistance transactions), the
    troubled institution is closed and its license or charter is
    extinguished. Typically, resolutions involve costs to the insurer
    because the insurer\'s obligation to insured depositors exceeds net
    recoveries on the institution\'s assets. Private-sector solutions,
    as the term is used in this paper, involve no cost to the deposit
    insurer or government. Depending on the legal situation and other
    circumstances in the country, private-sector solutions are likely to
    be directed by, or have the significant participation of, owners or
    creditors of the troubled institution.

[^5]: This is, in general, the standard used by the European Community
    to trigger intervention by the deposit-guarantee scheme. In some
    countries, a similar rule triggers a deposit payout. See the paper
    on depositor reimbursement.

[^6]: If an institution is resolved while it still has positive equity
    on a market-value basis, the deposit insurer may be able to avoid a
    loss.

[^7]: The cost of resolving failed institutions is bourne in the first
    instance by the deposit insurer. However, the deposit insurer must
    be reimbursed if it is to stay in business, generally through
    premiums paid by insured institutions. The insured institutions may
    pass on part of the cost---for example, through lower interest rates
    to depositors. In general, it may be concluded that, for the most
    part, the public ultimately bears the cost of resolving failed
    institutions.

[^8]: In rare cases, a strict least-cost requirement may result in the
    reimbursement or protection of uninsured depositors if the acquirer
    of a failed institution makes a bid high enough to compensate, or
    more than compensate, the deposit insurer for absorbing losses that
    would otherwise be bourne by the uninsured depositors.

[^9]: See the paper on claims and recoveries. Discounting future cash
    flows to present values is useful particularly because of
    differences in the timing of recoveries and expenses associated with
    asset disposition and because of differences in risk among asset
    types.

[^10]: Financial Stability Forum Working Group on Deposit Insurance, *A
    Consultative Process and Background Paper,* June 2000, page 16.

[^11]: For example, open-bank assistance may be used to keep the
    institution operating and thereby avoid an interruption in the
    provision of banking services and undue inconvenience or hardship
    for customers of the failed institution.

[^12]: Another alternative that has been used in some countries is to
    charter a new, limited-life bank to handle the reimbursement of
    depositors. Deposit payouts are discussed in detail in the paper on
    depositor reimbursement.

[^13]: The receiver may be a separate public or private entity or may be
    the deposit insurer in some countries. See the paper on powers.

[^14]: Rather than an operating institution, the acquirer may be a group
    of investors with a bank license or charter.

[^15]: The bid offered in a P&A represents the difference between the
    obligations assumed by the acquirer and the value of the assets
    purchased and the amount of cash provided by the deposit insurer.
    Because the difference between the obligations and the value of the
    assets may be considerable, the deposit insurer must offer cash or a
    loan to fill the \"hole.\" The winning bidder is the one willing to
    accept the least amount of cash or loans from the deposit insurer.
    In general, the same procedure applies in insured-deposit
    transactions as well as total-deposit P&As, with the obvious
    difference that the amounts of obligations assumed by the acquirer
    are different. If a strict least-cost test, as defined in the text,
    applies, and bidders may bid for both insured and total deposits,
    the bid for total deposits will win only if it is sufficient to
    cover the loss that would otherwise be bourne by the uninsured
    depositors and also exceeds bids for only insured deposits.

[^16]: In some countries a bridge-bank transaction is a type of
    closed-bank P&A transaction, in which the responsible authority
    becomes the temporary owner of the institution, pending a permanent
    solution. In at least one country, on the other hand, the bridge
    bank is controlled by an independent board of directors that adheres
    to corporate-governance principles in order to ensure the
    preservation of the institution\'s value.

[^17]: The subsidy element is most apparent in open-bank transactions
    that provide some degree of protection for shareholders. At the
    other extreme, least-cost resolutions fully reimburse only insured
    depositors. Uninsured depositors and other stakeholders are
    reimbursed only to the extent of net-asset recoveries applied
    according to the priority ranking established by statute. (See the
    paper on depositor priority.)

[^18]: Depending on the legal situation in different countries,
    open-bank transactions may have certain other disadvantages compared
    with a closed-bank transaction. In the open-bank case, certain
    contingent liabilities may be retained by the assisted institution
    and become potentially payable in cash; in a closed-bank transaction
    such liabilities would pass to the receiver and be payable as a
    nondeposit creditor claim. Furthermore, in some countries, certain
    burdensome leases and contracts may be abrogated without penalty in
    a closed-bank transaction.