Philippines - Financial sector study (Vol. 2 of 3) : Legal annexes

Report No. 7177-PH Philippines Financial Sector Study (In Three Volumes) Volume Il: Legal Annexes August 23,1988 Industry and Energy Operations Division Country Department II Asia Region FOR OFFICIAL USE ONLY Document of the World Bank This report has a restricted distribution and may be used by recipierts only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  FOR OMCIL USE ONLY PHILIPPINES FINANCIAL SECTOR STUDY VOLUME II: LEGAL ANNEXES Table of Contents Page No. Annex 1. Legal Issues Affecting the Central Bank of the Philippines - 1 Robert C. Effros Annex 2. Legal Aspects Relating to Debt Recovery - Frank R. Kennedy 33 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  ANNEX 1 Page 1 PHILIPPINES FINANCIAL SECTOR STUDY Legal Issues Affecting the Central Bank of the Philippines A World Bank mission visited Manila in -ovember 1937 in order to study selected financial sector issues in the Philippines. One important set of related issues involves bank failures, insider abuse, liLigation by and involving the banking supervisory authorities and their officials, and the regulatory framework that is available to deal with these matters. A rash of recent bank failures and the ensuing litigation have led the Central Bank to take stock of the applicable provisions in the current laws. In the report that follows, the following matters are considered: Page No. 1. A new procedure is proposed for dealing with failing banks. It would replece the current procedures set out in sections 28A, 29 and 90 of Republic Act No. 265 ........... 4 a. Emergency loans (section 90) .......................... 4 b. The conservator (section 28-A) ............................ 6 c. Appointment of the receiver (section 29) ................. 7 d. The Deposit Insurance Corporation as receiver*............. 8 e. The strengthening of the Deposit Insurance Corporation.... 9 f. An alternative statutory ground for determining that a bank is insolvent .................... ............ 11 g. Would the proposed procedure for dealing with failing banks violate due process through the contravention of the rights of the bank's shareholders? ............... 12 h. A proposed change in the standard of court review so as to decrease litigation .............* .............. 15 2. Methods of detecting and countering insider abuse are proposed .o.o.o............................. .*...................... 18 a. Mandatory waiver by insiders of the secrecy accorded deposits by Republic Act No. 1405....................... 18 b. The introduction of a new instrument of regulation: the cease and desist order*... .* ................. ... 19 c. Further measures to counter insider abuse: Providing express statutory authority for the bringing of civil suits by the banking authorities and requiring that banks purchase fidelity bonds adequate to insure against illegal actions by bank insiders................ 20 (i) Civil suits against insiders .......................... 20  - 2 - ANNEX 1 Page 2 (ii) Fidelity bod .................................21 3. A proposal to establish a special banking court is examnined .......................................................... 23 4. Consideration is given to the liability of the Central Bank and its officials for actions taken by them in the performance of their duties ............................... 24 It may be appreciated that a major consideration of the study is to determine how the effectiveness of the Central Bank's supervision can be enhanced and the timeliness of its regulatory action can be improved without (i) creating unlimited and unchallengeable power in the Central Bank, or per contra (ii) creating undue risks and liabilities for those who exercise its authority. A balance must be sought between the requirements of more effective supervision of the banking system and the proper safeguard of the rights of those institutions, theiT directors, officers, employees, and shareholders, as well as the depositors and borrowers who together comprise that system. The conclusion suggested by this study is that the laws, as currently written, can be significantly improved so that their enforcement can become more objective, transparent and efficient. Findings and Issues in Brief In the wake of a rash of bank failures in the Philippines, at least a dozen suits have been filed against the Central Bank anj the Monetary Board for actions either taken or not taken by the authorities.- The incidence of this litigation has focused attention on the procedures available to the authorities and their efficacy. The currert procedures available for dealing with failing banks, and with fraudulent or unsourid and unsafe banking prac- tices which may contribute to their failure,. are cunbersome and antiquated. They involve the possibility of emergency loaes fro.n the Central Bank and then a three-stage process involving the appointment of a conservator, a receiver and finally a liquidator. The criteria according to which these stages are arrived at invite continuing litigation by banks, their shareholders and employees against the action of the Central Bank at each step. The authori- ties bring protracted criminal suits against directors and officers who may have been involved fraudulently in the failure of the bank. However, the law does not expressly provide for, nor are the authorities in the habit of, bringing civil suits. Civil suits would have the beneficial effect of requiring those personnel wrongfully responsible for a bank's failure to contribute to the assets available for distribution and would provide an additional disincentive to insider abuse. Since the standard of proof 1/ The mission was aware of suits being brought in respect of the following: Associated Bank, Manila Bank, Pacific Banking Corporation, Producers Bank, Admiral United Savings Bank, PAIC Savings and Mortgage Bank, Triumph Savings Bank.  3 ANNEX 1 Page 3 required in civil suits is less than that required in criminal suits 2/ it is likely that the prospects of recovery would be proportionately more successful. The Central Bank makes all of the decisions on how to deal with the failing bank while the Philippine Deposit Insurance Corporation (hereinafter called the Deposit Insurance Corporation) is ordinarily reduced to an accessory role of merely paying out on insured deposits. Since it is under- capitalized and its assessment powers are fixed and iradequate, the Deposit Insurance Corporatior must rely heavily on lodas from the Central Bank. These have plunged the Deposit Insurance Corporation intu indebtedness and have affected the schedule and regularity of its payout to insured depositors. Such events can only lead to the diminishment of public confidence in the banking system rather than the enhancement that the system of deposit insurance was intended to foster. In the meantime, the Central Bank is subject to charges of conflict of interest and to further litigation against it and its officers when it chooses an appropriate policy for dealing with a failing bank. The spectrum of possible alternatives includes assisting a failing bank through loans or otherwise, selling it to another financial institution, or liquidating it. Objective criteria for making these decisions are not specified in the law and those who believe themselves aggrieved by a particular decision of the authorities are not hesitant in pursuing their interests in court. The courts, interpreting the current standard for judicial review of the action of the banking authorities, tend to be drawn into a detailed substantive review of actions which are most appropriately left to the discretion of the authorities. At the same time, members of the public who might participate in the capacity of conservato.s or receivers in the process of dealing with problem banks, as the current law intends, decline to participate. It follows that the tasks that they might otherwise perform fall to Central Bank personnel to execute to the detriment of their other duties. In the wake of a failing bank, it is not uncommon that the super- visary authorities discover insider abuse often amounting to fraud and violation of the law. The supervisory authorities are severely hampered in their power to anticipate insider abuse in consequence of a law that prohibits examination of bank deposits. This law, Republic Act No. 1405, does permit such inspection in one limited contingency. This is when the inspection is specifically authorized by the Monetary Board upon its being satisfied that there is a reasonable ground to believe that bank fraud or ser.ous irregu- larity has been or is currently being committed. This limited contingency is hardly adequate since it is likely that it is primarily through inspection of deposits, which the law forbids, that the Monetary Board may be able to come to the conclusion that there is a reasonable ground to believe that bank fraud has been or is being comw'ted. It follows that inspection of insider deposits must be a prerequisite rather than a sequel to the discovery or suspicion of bank fraud and irregularity stemming from insider abuse. 2/ See Rule 133 of the Philippine Rules of Court.  _ 4 _ ANNEX 1 Page 4 Following the detection of insider abuse or other irregularities, the banking supervisory authorities must have at their disposal an arsenal of graduated instruments of response. A maximal response such as revocation of the license of a bank may be too severe. An inspection of the administrative sanctions available to the Monetary Board under current law indicates the absence of a fully developed modern instrument of a cease and desist order. Further analysis reveals no express statutory authority under which the supervisors may bring civil suits on behalf at the banks against insiders who have abused their powers to the detriment of the bank or under which they may invoke the provisions of mandatory fidelity bonds that insure againFt irregularities caused by insider abuse. From time to time, a proposal has been made to establish a special court to deal with banking. The proposal is considered in this report. Finally, although the reDort recommends a number of specific measures to decrease the litigation that attends the actions of the banking supervisory authorities, especially when dealing with failing banks, a more general recommendation to immunize fully the officials from suit in their individual capacities is believed to be beyond the scope of this report. Conclusions and Recommendations 1. A new procedure is proposed for dealing with failing banks. It would replace the current procedure set out in sections 28A, 29 and 90 of Republic Act No. 265.* (a) Emergency loans (section 90) Under the current procedure set out in section 90 of Republic Act No. 265, in an emergency the Monetary Board can approve extraordinary advances to banks that are se cj red by any assets that the Monetary Board defines as acceptable security.- In practice, it is understood that a bank that seeks such an emergency advance may tender to the Central Bank an assortment of unevaluated collateral. In the event, the authorities must attempt to make a decision with little time to reflect on the value of the collateral which ultimately may prove substandard and even uncollectible. Section 28A provides for the appointment of a conservator should the Monetary Board find the bank experiencing a continuing state of illiquidity. Although the law states that, to the extent practicable, the c,nservator should not be connected with the Central Bank, in practice the office has devolved on members of the Central Bank's staff. This is because the job is a tharnkless one, with uncertain prospects for success and almost certain risks of litigation in the event that * Selected provisions of the law are set out in an appendix to this report. 3/ Additional assistance may be made available through section 88 in accordance with the Central Bank may make loans to government financial institutions in order to enable them to infuse new rapital into a distressed bank through the purchase of its stock.  _ 5 _ ANNEX 1 Page 5 the bank ultimately fails. Such litigation may be brought, for example, by the shareholders of the bank whose stock becomes worthless or even by officers and director3 of the bank who lose their positions upon or subsequent to its failure. Under the procedure that is proposed a bank encountering liquidity problems would approach the Central Bank for an emergency loan. An emergency loan, if granted by the Monetary Board; would be in the form of two tranches. The total of the two trarches would equal a sum stated in the statute, for example, fifty percent of total depo tts and deposit substitutes (defined in section 100-A) of the applicant bank.' The first tranche would be equal to the value of good collateral offered by the bank to the Central Bank or twenty-five percent of its total deposits and deposit substitutes, whichever is less. Collateral acceptabie for the first tranche would be government securities and possibly other first class collateral which the Monetary Board may specify. At the point of time at which the first tranche loan is granted, examiners from the loan and appraisal department of the Central Bank would be authorized to evaluate other assets to the end of determining whether they might qualify as good collateral to secure a second tranche emergency loan if such a loan should become necessary in the future. The objective of these proposed procedures is to regularize a currently haphazard process, establish parameters for the amount of assistance that can be provided, and reduce the ultimate exposures of the authorities. If the liquidity situation of the bank fails to improve, it would be authorized to apply for a second tranche emergency loan up to twent,five percent of its total deposits and deposit substitutes. If a bank found it necessary to apply for a second tranche emergency loan, the principal 4/ It is for the consideration of the authorities whether, in exceptional circumstances, the Monetary Board, by a qualified vote, might be authorized to grant a Loan in excess of this amount.  6 ~~~~~~~~~~~~~~~~~~~~~~~~ANE 1 - 6 - Page 6 sharehoil ers of the bank would be required to furnish security from their own assets - to cover the remainder of the second tranche loan which is collateralized by lower quality collateral. The amount and type of collateral which the principal shareholders would be required to furnish would be specified by the Monetary Board. If they refuse to respond, the Monetary Board -zould be authorized to take such ref isal into consideration when deciding whether or not to make the emergency loan. Under these circumstances, the Monetary Board might, for example, decide to require the resignation of the directors and the appointment of new directors as a condition to granting the second tranche. Alternatively, it might decide to telescope the process leading to the appointment of a receiver. (b) The conservator (section 28-A) There would be a second prerequisite for the granting of the second tranche of the emergency loan. This would be the agreement by the principal shareholders that if the Monetary Board should deem the appointment of a conservator necessary either at this point in time or at some future point in time, then those shareholders will hold him harmless from suit by any single shareholder or group of shareholders (who may have refused to sign the agreement), by uninsured creditors or by personnel of the bank who may lose their positions should the efforts of the conservator prove unsuccessful and the bank subsequently be forced into insolvency. Such an agreement would operate to minimize the risk to conservators from the suits that are currently brought against them. The frequency of these suits has led to the avoidance of such office by members of the private sector and the necessity of its administration by members of the bank supervisory dep4rtment of the Central Bank to the detriment of their performance of their regular duties. 5/ Precedent for this approach apparently exists in the practice of the Central Bank. See Ramos v. Central Bank of the Philippines, 41 Supreme Court Reports Annotated 565, 574 (1971) where it is reported that in return for its undertaking to work for the rehabilitation, normalization and stabilization of a distressed bank through the extension of financial assistance to stave off liquidation, the Central Bank required the principal stockholder to convey by way of mortgage to the Central Bank "*** all their private properties and holdings to secure the obligations of the OMB to the CB: "In view of the OMB stockholders' reluctance to execute the Voting Trust suggested, the Monetary Board adopted Resolution No. 2015 dated 16 October 1967, having the following terms (Petition, Annex "F"): "'(1) To require *** the principal stockholder of the Overseas Bank of Manila, to submit a listing of his properties and to mortgage or assign the same to the Central Bank to cover the overdraft balarce therewith of the Overseas Bank of Manila;...'  7 ANNEX I Page 7 If the Monetary Board does find it necessary to appoint a conservator then it is at this point that the shareholders will be on notice that they must strive to rehabilitate the failing bank by an infusion of new capital or otherwise. It is the conservator's task to try to revive the bank if he can. During his tenure, as under current law, he will have full management control and will report to the Monetary Board. In addition, as also provided under current law, the Central Bank's examiners will be monitoring the situatior. and reporting through the Governor of the Central Bank to the Monetary Board. Copies of their reports will also be forwarded to the deposit insurance corporation in ac cqrdance with the authotity provided by section 9(d) of Republic Act. No. 3591.' The shareholders may be able to come up with a plan to revive the bank through an infusion of capital or through new borrowing or a combination thereof o;-. alternatively, they may be able to come up with a plan involving the sale of thz bank to new owners. Nevertheless, if the situation worsens, the Monetary Board, on the recommendation of the conservator, may decide to turn down the shareholders' plan for the rehabilitation of the bank. Under current law there are no objective criteria to guide the Monetary Board in its decision. The law should be amended to provide objective criteria for the Monetary Board's rejection. Such criteria might permit rejection on the ground that: (i) the plan fails, in bringing in new funds, to establish adequate ratios between capital and deposits or between liquid assets and deposits; or that (ii) the plan is inequitable; or that (iii) it fails to provide for the removal of any director, officer, or employee responsible for the circumstances which, in the judgment of the Monetary Board, have led to the failure or near failure of the bank. In any of these circumstances, either the conservator or the Central Bank's examiners would be authorized to recommend to the Monetary Board an adverse finding that requires the appointment of a receiver to whom the conservator must relinquish office. (c) Appointment of the receiver (section 29) An adverse finding of the Monetary Board could be taken either by way of rejection of a plan for reorganization or on the Monetary Board's own initiative on the basis of reports submitted to it by the conservator or the Central Bank's examiners. The finding would be one or more of the following conditions: (i) insolvency as determined through a balance sheet test (current law, section 29) (ii) insolvency as determined through an equicy test (new) (iii) willful violation of a cease and desist order which has become final (new). 6/ "The Corporation shall have access to reports of examination made by, and reports of condition made to the superintendent of Banks or the Governor of the Central Bank of the Philippines.***"  - 8- ANNEX I Page 8 (iv) continuance in business of the bank would involve probable loss to depositors or creditors (current law, section 29). In the event that the Monetary Board makes such a finding, it shall have exclusive power and jurisdiction to appoint a receiver (who may also act as liquidator) ex parte and without notice to the bank. This appears to be the case under current law. The requirements of due process would be met, as at present, by permitting an action to be brought subsequently by the bank. If such action is brought, then the standard for judicial review would be toe substantial evidence test rather than the current test of whether or not the action complained of was taken arbitrarily and in bad faith. In accordance with the substantial evidence standard, the court would have only a narrow function. It would be to decide whether there were facts in the record of the proceeding before the Monetary Board in accordance with which the Monetary Board could reasonably have come to its finding. As noted, this standard would substitute for the current statutory standard in section 29 ("that the action is plainly arbitrary and made in bad faith") which appears, despite the undoubted intention to the contrary, to invite litigation. (d) The Deposit Insurance Corporation as receiver At present, a receiver is ordinarily appointed from among the staff of the Central Bank although the law contemplates in section 29 the possibil- ity that the Central Bank might appoint another person of recognized compe- tence in banking or finance. Under the proposal, the receiver would be required to be the Deposit Insurance Corporation. As noted above, it will have been a recipient of reports made through the Governor to the Monetary Board by the Central Bank's examiners and the conservator during the term of the conservatorship. The Deposit Insurance Corporation would be mandated, as already provided by statute, to choose from among three basic courses of action to deal with a failing bank. These courses of action would be to: (i) make loans or other financial assistance available to the bank during the period of the conservatorship, so as to contribute to its rehabilitation (section 12(c) of Republic Act No. 3591) (ii) pay out insurance on the insured deposits and liquidate the bank (section 10(c) of Republic Act No. 3591) (iii) facilitate the purchase of the assets (or some portion of them) by another bank together with the assumption by the latter of the deposit liabilities of the failing bank (section 10(c) of Republic Act No. 3591). Under the proposal, the Deposit Insurance Corporation would, after consultation with the Monetary Board, be required to make its decision as to which of these courses of action to select on the basis of the following criteria:  ANNEX 1 - 9 - Page 9 (i) least cost Lo the deposit insurance corporation (new); (ii) convenience to the community (new); (iii) tendency to create a monopoly (new but see section 21-D of Republic Act No. 337 for similar criterion). It should be noted that the Deposit Insurance Corporation already has, under section 3 of Republic Act No. 3591, full authority to undertake any of these courses of action (although objective criteria for selecting among them is not provided in the law). It follows that, unlike the current law which contemplates the separate appointments of receiver or liquidator, the Deposit Insurance Corporation, once appointed, may perform both such capaci- ties. The three stages of current law would thus be telescoped into two under the proposal. As a consequence of the various compo7ents of the proposal, responsibility for granting an emergency loan to a failing bank would remain the responsibility of the Central Bank and it is to the Monetary Board of that institution that the conservator would report until the bank has either been (i) rehabilitated and the conservatorship terminated in conse- quence or (ii) a receiver has been appointed to succeed the conservator. In the event of the latter, responsibility would shift from the Central Bank and the Monetary Board to the Deposit Insurance Corporationi. It is the latter which would be entrusted with the decision of how to dispose of the failed bank. With this division of responsibility between the two institutions, charges of conflict of interest and the like, which are currently leveled at the Central Bank, might be expected to diminish. No longer would there be a single institution whose decisions from beginning to end may be perceived as parts of a coordinated pattern designed to hasten the demise of a temporarily embarrassed bank in order to seal its fate in a preordained manner either through liquidation or sale to a favored competing bank. It should be noted that a bill was recently introduced in legislature that would, among other things, change current law which provides that the Chairman of the Board of PDIC shall be the Governor of the Central Bank. This would reinforce the separation between between the two institutions that is envisaged by the mission's proposals. (e) The strengthening of the Deposit Insurance Corporation In order for the Deposit Insurance Corporation to assume the important role that would be required of it, its financial resources would need to be augmented. Its capital has already been augmented by statute but this has not proved adequate. Its assessment rate is already at the maximum level authorized by section 6(a) of Republic Act No. 3591. Accordingly, some combination of any or all of the following methods of augmentation might be considered: 7/ A loan from the Deposit Insurance Corporation could not be made to the bank unless and until a conservator had been appointed by the Monetary Board.  - 10 - ANNEX 1 -- ~~~~~~~Page 10 (i) increasing the capital subscription by the government; (ii) substituting a risk based insurance premium for the current flat premium. In accordance with this proposal, the assets of a bank would be classified into categories according to the degree of risk. A higher premium would be charged for loans or investments made in a relatively risky category than for those made in a less risky category;-0 (iii) assessing the surviving members of the banking communityamounts sufficient to enable the Deposit Insurance Corporation to pay off insured depositors of a failed bank. Under this method, reliance would be placed on ex post assessments to the extent that premiums to date proved inadequate to cover insurance obligations. 3i The mission received assurance from an officer of the Central Bank that its examiners would be able to make the appropriate classification necessary for the implementation of this proposal. It is understood that a proposal of this nature has already been made in a report by the Banker's Association: "Insurance premiums paid to the Philippine Deposit Insurance Corporation (PDIC) should vary with the quality of each bank based on an accepted rating system. Insurance premiums paid to PDIC should be made to vary with the quality of each bank, in terms of its loan portfolio, its non-performing assets, and provisions for reserves. The insurance premium to be paid by each bank will be adjusted according to its finencial position, and performance record including the size of its exposure to its own directors, offficers, stockholders and related interests (DOSRI)." Classification of assets in risk based categories is undertaken in some countries for the purpose of determining required capital for banks. Among banking supervisors currently employing some form of risk based capital standard are those of: Belgium, France, Germany, Netherlands, Sweden, Switzerland, and the United Kingdom. In addition, the Basle Committee on Banking Regulations and Supervisory Practices, which meets under the auspices of the Bank for International Settlements, has proposed a uniform system of capital based on credit risk.  ANNEX I - 11 - Page 11 In the proposed system, the Deposit Insurance Corporation, if it elected to pursue a course of liquidation or otherwise became subrogated to the claims, would be expressly authorized to pursue civil remedies against those individuals whose actions through violation of law or fraud conti-buted to the failure of the bank. In the final analysis, it would be the Deposit Insurance Corporation (together with the shareholders) that would be saddled with the financial loss of the bank, and it is therefore logical to authorize it to bring civil suit so as to minimize its loss through recovery against those responsible. The current law does not appear to contain express authority in this regard. f. An alternative statutory ground for determining that a bank is insolvent As a part of the proposals presented above, it is recommended that the Monetary Board be authorized to make a finding of insolvency on either of two bases. These bases are: (i) the balance sheet test and (ii) the equity test. The balance sheet test is whether liabilities of a bank exceed its assets. One court has characterized it as follows: "Insolvency is [a question] *** of fact, and is a question of values of assets as against liabilities and to arrive at the insolvency of a bank at a given time, its assets and unimpaired capital and surplus together with 'ts liabilities are the principal factors to be considered. '9- The balance sheet definition of insolvency has been incorporated into Section 29 of Republic Act No. 265: "Insolvency under this Act shall be understood to mean that the realizable assets of a bank *** as determined by the Central Bank are insufficient to meet its Liabilities." It is submitted that this test, alone, may not be flexible enough to permit timely action by the authorities under all circumstances. Thus, circumstances may arise in which a bank is unable to meet its obligations as they mature even though a theoretical calculation based on the valuation of illiquid assets may yet indicate solvency in accordance with the balance sheet test. Alternatively, following a bank's closure, upon a careful revaluation of assets and liabilities, it may be discovered that the former barely exceed the latter although the opposite appeared to be the case at the time the bank was closed. The supervisors should have discretion to resort to an alternative definition of insolvency in the interests of protecting the banking public. This second definition, the equity test, is whether the bank is able to meet 9/ Kester v. Helmer: 16 F. Supp. 260 (1935), aff'd 85 F. 2d 646 (1936), cert. den. 299 U.S. 608, 57 S.Ct. 234, 81 L. Ed. 448.  -12 - ANNEX1 Page 12 its debts as they become due or, in effect, whether it can keep its doors open regardless of its balance sheet position. Courts have indicated their acceptance of this test: "[Tihe fact that *** [a bank] *** has assets which ultimately may be worth as much as the de?8wits does not establish that it could keep its doors open."- "A *** bank is insolvent *** when it is unable to meet obligations as they mature. *** Its status is determined by the closing of its doors, rather than by the theoretical state of its balance sheet which may include assets whose actual value ii!far less than that at which they are carried on its With this additional test of insolvency, it is submitted that the authorities will have a greater latitude in which to act based on clearly objective criteria. Less reliance need be placed on the more subjective of the two criteria that are currently set out in section 29 of Republic Act No. 265: that the continuance in business of the bank would involve probable loss to its depositors or creditors. g. Would the proposed procedure for dealing with failing banks violate due process through the contravention of the rights of the bank's shareholders? It should be noted that the proposal envisages a procedure whereby a bank could be declared insolvent and the Deposit Insurance Corporation appointed as receiver without notice to the bank and without requiring its representatives to be in attendance. A judicial review would follow only after this procedure had been completed and only after an opportunity had been provided for the Deposit Insurance Corporation to dispose of the failed bank in accordance with the alternative courses of action authorized under the law. The objective of the proposal is to ensure the smooth functioning of the procedures recommended and to insulate them from litigation that might hamper the discretion of the banking supervisory authorities. The proposal raises the question whether, in balancing the exigencies of rapid action by the authorities with the rights of the shareholders, the latter should prevail as a consequence of the requirements of due process. This question has, in fact, 10/ In re Franklin National Bank, 381 F. Supp. 1390, 1392 (1974). 11/ Smith v Witherow, 102 F. 2d 638, 540 (1939). See also FDIC v. American Bank, 629 F. 2d 951, 953 (1980): "When a bank can no longer meet its obligations, it is not for judges to speculate that it might have appeared to have been a viable financial institution for one day or a few days longer."  ANNEX 1 -13 - Page 13 been raised in respect of the provisions of the current law in one of the suits pending before the courts. The provisions of the current law are not unambiguous on this point but appear to permit such a procedure. Under the proposal the law would unambiguously authorize the procedure. The requirements of due process in the jurisprudence of the Philippines are set out in Ang Tibay v. Court of Industrial Relations, 69 Philippine Reports 635 (1940). In that case the court stated that a proceeding could not "***entirely ignore or disregard the fundamental and essential requirements of due process in trials and investigations of an administrative character. There are cardinal primary rights which must be respected.*** The court went on to state: "The first of these rights is the right to a hearing, which includes the right of the party interested or affected to present his own case and submit evidence in support thereoZ. In the language of Chief Justice Hughes, in Morgan v. U.S., 304 U.S.1, 58 S.Ct. 773, 999, 82 Law.ed. 1129, 'the liberty and property of the citizen shall be protected by the rudimentary requirements of fair play." There are, however, numerous cases elsewhere which support the validity of the approach recommended by this report in the field of bank supervision and which conclude that due process is not thereby violated. Precedents in the United States may be particularly appropriate in as much as Philippine jurisprudence recognizes and not infrequently contains citations to American jurisprudence. In one leading case decided in the United States, the court stated concerning an analogous procedure: "In establishing the national banking system Congress has invested the Comptroller, an administrative officer, with jurisdiction to appoint a receiver after investigation and a finding that a bank has become insolvent ***. Plainly there are questions for the exercise of administrative discretion. The necessity for vesting this power in an administrative officer springs from the desirability of prompt liquidation. *** It would be *** intolerable if stockholders as a class could cal' upon a court review the Comptroller's exercise of his discretion. *" _ The proposition that the banking supervisory authorities may appoint a conservator or receiver on an ex parte basis without representatives of the bank in attendance has also been affirmed under American jurisprudence: 12/ Adams v. Nagle, 303 U.S. 531, 540, 82 L. Ed. 998, 1005 (1938).  -14 - ANNEX 1 Page 14 "It is complained that these regulations provide for hearing after the conservator takes possession instead of before. This is a drastic procedure. But the delicate nature of the institution and the impossibility of preserving credit during an investigation has made it an almost invariable cu T5m to apply supervisory authority in this summary manner."_ Judicial review of banking supervisory actions that, by their nature, must be accomplished swiftly in order to avoid greater risks to the banking public and by extension to the banking system may be postponed to a later stage. In the language of one court in the United States. "The special character of banks, and the delicate problems involved in preserving credit, justify denial of the ju y ial hearing which would be essential in other situations." _ It has been determined, moreover, that the action of the banking supervisory authorities in dealing with a failed bank may proceed without the encumbrance of judicial review beyond the appointment of a receiver and even into the sale of the assets of the bank. Thus, the last cited court stated: "It appears that FDIC has carefully canvassed the market, has determined that the proposed sale of a substantial portion of the assets is the most desirable method of resolving the Bank's problems, and has invited bids from at least four qualified banks. * The rights of the stockholders of the Bank and its holding company are of course affected. *** However, under the cases cited above, the stockholders have no right to challenge either the determination of insolvency or the sale of assets. A** Any meaningful notice and hearing would defeat the expedition which is necessary in order to preserve the basic values of an insolvent bank. Both precedent and practicalj*y therefore support the petition for ex parte approval." - There is authority under Philippine jurisprudence that the constitu- tional requirements of due process are preserved by affording a hearing to aggrieved parties after the actions complained of have been taken by the banking supervisory authorities: 13/ Fahey v. Mallonee, 332 U.S. 245, 254, 91 L. Ed. 2030, 2039(1947). 14/ In the matter of the Liquidation of Franklin National Bank, 381 F. Supp. 1390, 1392 (1974). 15/ Id. at p. 1393.  ANNEX 1 - 15 - Page 15 "***Suffice it to say that ***[the lower court]*** had no reason to inquire into the merits of the case before issuing the disputed order requiring the surrender of the assets and papers of the Lucena bank, because: (1) neither the statute (sec. 29, R.A. 265) nor the constitutional requirement of due process demand that the correctness of the Monetary Board's resolution to stop operation and proceed to the liquidation of the Lucena Rural Bank should first be adjudged before making the resolution effective, it being enough that a subsequent judicial review be provided (section 29, R. A. 265; 12 Am. Jur. 305, sec. 611; Bourjois vs. Chapman, 301 U.S. 183, 81 Law Ed. 1027, 1032; American Surety Co. vs. BaLdwin, 77 Law Ed. 231, 86 ALR 307; Wilson vs. Standefer, 46 Law Ed. 612;***" 16/ Accordingly, it is believed that the procedures recommended for dealing with failing banks, including the components intended to reduce or postpone litigation, are consistent with the doctrine of due process as that doctrine has been applied in Philippine jurisprudence. h. A proposed change in the standard of court review so as to decrease litigation 16/ Rural Bank of Lucena, Inc. v. Arca, 66 Supreme Court Reports Annotated 66, 74 (1965). See also Slay v. Berry, 27 Mich. App. 271, 183N.W. 2d 436 (1970). In thiv case the hearing was held a week after the ex parte proceedings which declared the bank insolvent, appointed the FDIC as receiver and directed the sale of assets. The court stated: "Commissioner Slay applied to the circuit court to have the FDIC appointed as receiver. Such appointment was made by Judge Burdick without notice to the Bank or its stockholders, but providing for a later hearing at which time all parties would be afforded an opportunity to make objection. It is this failure to give notice which is claimed to be unconstitutional. Appellants contend that due process requires notice and a hearing, citing a multiplicity of cases for this proposition. It cannot be disputed that in the ordinary case notice and an opportunity to be heard are constitutional prerequisites in any proceeding which is to be accorded finality. *** But it is equally indisputable that the regulation of banks and other such institutions burdened with a public trust have never been treated as an "ordinary case"--and rightfully so. The banking business, more than any other, has been the subject of the most careful scrutiny of regulatory agencies. The unique character and tradition of banking often justify the delegation of extremely broad discretionary powers to state banking commissioners which, if attempted elsewhere, would likely violate due process. ***."  ANNEX 1 -16 - Page 16 In section 29 of Republic Act No. 265 the actions of the Monetary Board are final unless set aside by a court on the ground that there is convincing proof that the action complained of is arbitrary and has been made in bad faith. This standard has invited a good deal of litigation recently concerning actions that the Central Bank has taken in respect of distressed and failed banks. When plaintiffs allege arbitrariness and bad faith, the courts may be tempted to inquire into the facts and issues surrounding the actions taken by the authorities. The criterion of arbitrariness and bad faith was undoubtedly intended to serve as a very narrow standard of judicial review. It is one that is encountered in other jurisdictions and ha! q7ften figured in controversies involving banking supervisory