Why do insolvency regimes differ so much around the world?

Why do insolvency regimes differ so much around the world?

July 3, 2024


Trade has grown increasingly global in recent decades, generating greater volumes of cross-border issues. Some of these inevitably need resolving through some form of restructuring or insolvency process. Unfortunately, not everything can be settled on a consensual basis.

The trouble is, the deeper one dives into the world of international insolvency, the more obvious it becomes that insolvency regimes are like human fingerprints: no two are alike, and the differences can be not just stark but sometimes incomprehensible and almost always inconvenient.

In this first international blog, we look at why insolvency frameworks vary so much.

The early history of insolvency systems

Debt and debt relief processes are as old as civilisation. In Ancient Greece, insolvent debtors and their families were required to work off unpaid amounts through physical labour under a system of ‘debt slavery’.

In Judaism, the Torah prescribes that every seventh year is decreed by Mosaic Law as a Sabbatical year when all debts owed by members of the Jewish community are forgiven. In Islamic teaching, according to the second chapter of the Quran, an insolvent person was deemed to be allowed time to pay off their debt.

In mediaeval times, English canon law included provisions to mitigate the harshness of debtors’ punishments. In contrast, in East Asia, the law under Genghis Khan mandated the death penalty for anyone who became bankrupt three times.

England’s first recognised piece of legislation was the Statute of Bankrupts 1542 in the late Middle Ages. The development of commerce in the Industrial Revolution led to a series of bankruptcy-related laws in the first half of the 19th century, culminating in the Bankruptcy Law Consolidation Act of 1849 and eventually the Bankruptcy Act of 1869.

America was quicker off the mark with its own Bankruptcy Act of 1800, but the modern debt resolution system originated in the later Bankruptcy Act of 1898.

In Europe, a bankruptcy statute issued in Sienna in 1272 created a tradition of debt resolution that led through the French Ordonnance sur le Commerce of 1673, via the French commercial code of 1807, and on into modern times. But systems were evolving worldwide, with very distinct characteristics.

Recent global or regional crises

Major economic events, whether local, regional or global, can drive significant changes in insolvency regimes.

Asian Financial Crisis 1997

Precipitated by the collapse of the Thai currency in July 1997 in what was known there as the Tom Yum Kung crisis, the contagion spread throughout East and South East Asia. Apart from the broad-scale economic damage caused, the crisis exposed a critical lack of effective insolvency processes right across the region.

In some jurisdictions, there wasn’t even an accepted definition of insolvency, and certainly not the judicial or professional capacity to deal with the huge numbers of insolvent businesses that needed to be wound up. Fast-track mass liquidation procedures had to be designed and implemented while restructuring and business rescue methods were invented where they were absent.

An IMF report details the crisis and its outcomes.

Global Financial Crisis 2008/9 (GFC)

The GFC differed from previous post WW2 worldwide economic shocks for originating in the financial systems of countries, cutting off access to rescue funding while those systems were stabilised.

The failure of systemically critical entities such as Lehman Brothers and Bear Stearns threatened to trigger the collapse of huge numbers of counterparties to their highly complex financial trading, but more challenging still were the cross-border insolvency difficulties their demise caused, especially in jurisdictions whose insolvency systems had not kept pace with modern banking practice.

Innovative solutions were found through the ingenuity of insolvency professionals and the creativity of specialist insolvency judges in reinterpreting existing insolvency legislation. The lessons learned have changed insolvency practice and should make the next global crisis less difficult to deal with.

An Economics Observatory blog describes the GFC and its impact.

Covid Pandemic 2020

The pandemic caused significant disruption, starting with misplaced hopes of a short duration and a clear emphasis on preserving businesses as going concerns rather than burying them. Globally, it caused wholesale re-design of business rescue procedures or the introduction of them where they were lacking, plus significant temporary constraints on creditor enforcement rights.

Influences on global insolvency regimes

In broad terms, a wide range of factors will determine the character and the financial or legal ‘red lines’ in any insolvency system:

  • Local business culture and practice.
  • Broader cultural issues – the more employee-friendly procedures in France, for example.
  • Legal systems – for example, the different principles of common law vs. civil law.
  • Degree of judicial involvement – light touch supervision vs. direct and proactive role
  • Legal precedents – judicial decisions constantly adapt laws to reflect changing commercial conditions or to cover gaps left by poor legislative drafting.
  • Professional leads – accountants in charge vs. lawyers

Implications from differing insolvency systems

Insolvency professionals thrive on uncertainty, but not generally regarding the laws governing their activities. Dealing with other workout regimes with completely different triggers, processes, and philosophies could be intimidating. Fortunately, IPs are also profoundly pragmatic and have demonstrated an extraordinary ability to work successfully cross-border. In our next blog on international insolvency, we will look at some of the methods they use and the frameworks within which they operate.

 


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