Episodes of incipient or actual financial instability are often  BIS Review 67/2001  1  accompanied by failures in the corporate sector which may lead more generally to losses throughout the financial system. In some cases, the corporate failures reflect an inability to resolve temporary liquidity problems affecting a company that remains viable in the longer-term. Creditors may act without the benefit of all available information on a company’s solvency. This imbalance in information available to company and creditors can be compounded by conflicts of interest between different types of creditors, or between banks, bondholders and other financial institutions. The end-result is often the same: the unnecessary liquidation of viable companies, which represents a market failure capable of amplifying financial instability. That, in a nutshell, explains the Bank’s interest and involvement in this area. A country’s insolvency regime should seek to limit the costs arising from potential market failure, for example by supporting effective private sector mechanisms for reorganising viable companies. I would say it should do so partly by providing incentives for debtors and creditors to negotiate workouts at the pre-insolvency stage. This will hopefully reduce the risk of unnecessary corporate liquidations and avoid benefiting one group of creditors at the expense of others. Most of you, of course, will know that, guided by these principles, the Bank took the lead in developing a framework governing corporate workouts in the 1980s and early 1990s – the ”London Approach” or ”London Rules”.

In this context, we also welcome the ongoing work by international organisations, including the IMF and World Bank, on the design of efficient and effective insolvency regimes worldwide. It is, of course, difficult to establish international standards in this area, because the approaches adopted by different countries reflect not only different legal traditions but also different policy choices, most especially on the extent to which the system should favour debtors or creditors. Indeed, this is a debate that is live in several countries, including the UK where new measures were announced last month in the Queen’s Speech, and I am sure is occupying minds at this Congress. But the IMF work argues, rightly in my view, that any insolvency regime, whether debtor- or creditor-oriented, will enhance financial stability effectively only if it protects value for the benefit of all interested parties and the economy in general; and this requires the allocation of risk among market participants to be done in a way that is predictable, equitable and transparent. Financial sector restructurings Let me turn now to my second area: financial sector restructurings, and I would like to start by noting the importance of confidence in the smooth running of a financial system. Confidence is important in most industries, but it is at the heart of the financial industry. It is confidence that permits banks to operate, as a matter of course, with gearing many times capital, and with a maturity mismatch between their assets and liabilities, often concentrated in short-term or sight deposits.