design. Thus the specific environment should be carefully analyzed to assess the convenience of setting up a BCF and attention must be paid to its design.

World Bank lending to support the establishment of BCFs in LAC (World Bank 2004) has found that implementation of a successful BCF requires, at a minimum, the existence of certain prerequirements. These include prudential regulatory framework in line with Basel principles, the superintendency with the capacity to enforce its implementation, solvent banks with adequate management, and an Operating Manual to specify the procedures and criteria of operation of the BCF. In turn, Operating Manuals for BCFs should include several elements, although these may vary depending on the different institutional structures and country practices (Annex 1 illustrates key elements to consider, based on recent Bank operations and practical experience).

Even when a discussion on the design of BCFs goes beyond the scope of this paper, it is worth noting some key elements to be considered. It is convenient to avoid allowing BCFs to provide support to financial institutions in a way that (public funding) could be converted into stocks when solvency issues arise, thus leading to a majority ownership of the State in that particular institution.<sup>21</sup> Also, BCFs that facilitate bank resolution process should in general be restricted to solvent banks, to avoid supporting weak banks that may fail subsequently

# **II.** **<u>Bank Resolution Methods and Selection Among Available Choices</u>**

Once a bank crosses the “point of no return”, the supervisory authority has to choose the most appropriate BRM according to prevalent circumstances. To illustrate the supervisor’s task, this section presents advantages and disadvantages of the different methods, highlighting the circumstances that typically surround their selection and a “check list” of requirements that should help the selection process.

# II.1. **Bank Resolution Methods: Definitions, Advantages and Disadvantages**<sup>22</sup>

Following the classification of the Basel Committee on Banking Supervision (Bank for International Settlements 2002), we distinguish six categories of BRMs: bank closure and deposit payout, radical restructuring, purchase and assumption (P&A), mergers and acquisitions (M&A), bridge bank and open bank assistance.<sup>23</sup> Each method implies advantages and disadvantages and could be more appropriate or not depending circumstances.<sup>24</sup> The six categories are presented to illustrate better the alternatives for handling failing banks, even

> 21 A bank restructuring fund, not akin to the type of BCF described here, was once created in Bolivia to support bank restructuring. Its design allowed it to convert its subordinated debt into stocks to capitalize a bank that had solvency problems as the bank that had weaknesses was not willing to increase capital on its own to comply with regulatory capital.  Consequently, the government gained majority ownership of the given bank through the BCF, which served a purpose that was in conflict with its mission.

> 22 This section is based on the presentation “Conceptual Issues Related to Bank Resolution” by Javier Bolzico and Yira Mascaró (Washington, DC 2004) complemented by  “General Guidance for Resolution of Bank Failures” by the International Association of Deposit Insurers (IADI – 2005).

> 23 BRM have been ordered according to the degree of intervention of authorities, for illustration purposes.

> 24 As noted, the focus of this paper is on non-systemic cases. For systemic cases, other elements are at play, including large (negative) macroeconomic implications, and the suitability of mechanisms is less clear.  For instance, administrative measures (such as those used in Argentina during the 2001 crisis) may be implemented.

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