SECTION 4 - RELEVANT CHARACTERISCTICS OF THE RETA ECONOMIES

In this section a number of areas concerning the RETA economies are raised for discussion. They are areas which appear to be relevant or potentially relevant to the study.

4.1 Influences of other countries; trade and commerce

Each of the RETA economies, with the exception of Thailand, has been the subject at some time of colonisation by, dominance under or the direct influence of another country. Hong Kong, China, Singapore, Malaysia, India and Pakistan were all colonised by Britain. Indonesia was colonised by the Netherlands. Taipei,China and Korea were both under Japanese control. The Philippines was under American control and influenced accordingly. Japan has been influenced by French, German and American systems and practices

In many cases these influences have produced a lasting and continuing effect on such things as the legal system and the development of industry and commerce.

Additionally, particularly over the last twenty years or so, each of the RETA economies has enjoyed greater participation in both regional and world trade and commerce. This has produced something of the effect known as "globalisation", by which economic, legal and commercial techniques and practices common to many more fully developed countries have had their impact and influence on all of the RETA economies.

There may, in some cases, have been an expectation that these type of influences would effect a continuing development throughout the society of each country so that commercial and legal systems would continue to grow in the image of that which had been established and become widely practised. This expectation, however, appears to have overlooked the fact that many of these institutions and practices were established and, in part, developed or adopted for the benefit of only a small part of the society of many of these countries and often for the main (or, even, sole) purpose of enabling foreign interests to engage in trade and commerce according to their dictates of acceptable commercial and other practices. One might, therefore, doubt their relevance to and overall effect upon the wider society of these countries.

The development and practice of debt recovery and insolvency law appear to provide good examples of areas of law which, although they are important when foreign interests are involved, are not so important and less relied upon when only domestic interests are involved.

4.2 Economy

All the RETA economies may be described as market economies. The degree of development varies. The economies of Japan, Hong Kong, China and Singapore appear to stand out as the most developed market economies in the region. The economy of Malaysia, although a market economy, has been influenced by economic and social changes which were effected to promote greater involvement of the native Malaysian population. The economy of the Philippines, although much influenced by American involvement, is far from fully developed. Both India and Pakistan continue to maintain a significant state enterprise system as part of their respective economies. There has also been significant government intervention in the economy in each of those countries. Indonesia, Thailand, Korea and Taipei,China have all experienced a rapid development of market economy policies in recent years.

The fact that all these economies have market economies (or practice market economics) suggests that the development of an insolvency law or of commercial practices to deal with insolvent enterprises would (or should be) of some importance. It may be anticipated that the effect of normal (and, sometimes, abnormal) market forces will produce an inevitable number of insolvent enterprises with which the legal and commercial systems will have to deal. However, the experience of many of the RETA economies appears to defy such logic.

4.3 Legal system and institutions

One consequence of the extensive influence of other countries is that different legal systems have developed among the RETA economies. Legal systems tend to fall into either the common law tradition, the civil law tradition or a mixture of different elements, including both of those two main streams. Singapore, Hong Kong, China, Malaysia, India and Pakistan can be clearly said to have a dominant common law based legal system. Indonesia and Thailand appear to embrace the tradition of a civil law system. Japan, the Philippines, and Taipei,China present a mixture of both common law and civil law elements. Indonesia and Pakistan have each developed an Islamic legal system. Many of the RETA economies also have an element of native, tribal or local customary law as part of their legal systems.

The presence of different legal system traditions can make the task of comparison more difficult. For example, it is often said that the difference between a common law based and a civil law based legal system are quite marked. Two main illustrations of these differences are that in the latter the legislation tends to be more in the nature of an exhaustive code and the exercise by the judiciary of that which may be termed "discretion" is very limited. Also, under a civil law system there is much less scope for the development of the doctrine of precedent.

However, and despite these differences, in the area of insolvency law and practice there should not be any great difficulty in making comparison and developing elements of policy within the different systems. A comparison, for example, between the insolvency law regimes of typically civil law and common law countries does not disclose many differences in approach, principle and policy.

More importantly, there is some considerable difference in legal infrastructure in the RETA economies. The extent of development of a legal system and the institutions which normally support that development (principally courts, judges and officials) varies considerably between the economies. In the case of some of those economies, economic and commercial development has not always been accompanied by the development of necessary infrastructure foundations. In general, it may be said of the RETA economies that the more developed economies have a relatively sound economic, financial, legal and commercial infrastructure. The less economically developed of these economies invariably lack that depth of infrastructure.

One factor that may contribute to this is that some of the RETA economies have not had a long history of or strong dependence on a legal and judicial system, particularly in the commercial area. In a number of the economies, with the exception of areas of law such as criminal and government administrative law, there has been little reliance upon a legal system and its institutions. This could be due, in part, to cultural and other factors, as mentioned later, notably the preference for non confrontational negotiation to remedy disputes or problems. Political and government attitudes may also be a contributing factor, especially regarding levels of expenditure to develop and support a legal system and its accompanying institutions. This, in turn, filters down to the qualifications, training, experience and status of judges, judicial officers and the system generally.

In short, for some or other of those reasons, there may be little demand and not much respect for highly developed legal systems and institutions in some of the RETA economies.

This aspect commands significant attention in this study. As will be observed, the general approach to the policy and content of an insolvency law regime does not greatly differ between the RETA economies. There is, however, considerable diversity in the application of such laws. This, in most cases, seems to be the product of the varying degrees of development of a legal system and necessary institutions.

4.4 The private enterprise system

All the RETA economies have developed a relatively strong private enterprise system in which the corporation is the dominant vehicle. In some of the RETA economies the private enterprise sector is sometimes dominated by very significant sized corporations or conglomerates of corporations which can have an affect on the private enterprise sector generally.

Apart from that, however, there is very little difference in the RETA economies in the manner in which corporations are established and thereafter become involved in private enterprise. Indeed, of all the aspects of the RETA economies examined in this study, the similarities are greatest in this area.

Likewise, the development of the commercial sector and the development of commercial practices has produced a recognizable pattern throughout the RETA economies. For example, secured or collateral lending is widely practised in these economies, particularly secured lending on land. That would not be possible without a relatively well developed land ownership and property rights system together with laws which provide for the enforcement of such securities. This is an area that is reasonably well developed in most of the RETA economies. The development of other related areas, such as chattel mortgaging and lease financing, are not as well defined nor developed. In part, this is a result of an insufficient legal regime which might be used to support that form of financing.

4.5 The banking and finance system

All the RETA economies have developed a financial system with some common characteristics. Each RETA economy has developed a banking sector, the pivot of which is a central bank. Some of the economies accord their central banks strong independence or autonomy. Other economies do not. In most of the economies there is a strong domestic private commercial bank sector. However, in some there is a heavy concentration of state owned commercial banks.

The degree of control and regulation of the commercial banking sector varies considerably between some of the RETA economies.

Also, the equivalent of a finance or economic ministry is sometimes involved, along with the central bank, in exercising control and influence within the banking sector and in the financial system generally.

4.6 Social, cultural and other influences

An extensive range of cultural influences are evident in the RETA economies.

Three of the most important of these influences for the purposes of this study concern attitudes to strict legal processes, attitudes toward insolvency and attitudes about loss of control.

(a) Attitudes to strict legal processes

In many of the RETA economies there appears to be a cultural attitude, particularly evident in commercial society, which views dispute resolution and problem solving as best suited to non-confrontational negotiation and mediation. Consistent with that, there also appears to be a distinct aversion to the use of strict legal processes (which require a somewhat rigid adherence to legal system organisation, function and methodology) for the resolution of commercial disputes and problems.

The following extract from the local study of Thailand identifies the type of cultural factor which is involved here: "Thais are characteristically non-confrontational and conflict averse in their approach to business. Negotiation and compromise are the expectation and practice. Litigation is reverted to relatively infrequently, although more so in recent years e.g. it is common practice for banks to require and directors to give personal guarantees as security for corporate lending, but there has been a notable reluctance for banks to sue on such personal guarantees, as opposed to looking at other alternatives - extending the term or repayments, etc. This cannot be explained by legal difficulties for creditors, as there are few defences available to guarantors under Thai law".

This attitude should not be the subject of criticism. If negotiation and mediation is a successful way of resolving commercial disputes and problems then so much the better. However, there is a distinct problem in the application of negotiation and mediation to the type of problems produced by the insolvency of a corporation. As mentioned earlier, there are a multitude of interests of which account must be taken because it is a collective remedial process. Often these interests are in conflict with one another. An insolvency law regime requires a significant degree of strict legal system organisation, function and methodology for effective operation.

If it is correct that attitudes generally in many of the RETA economies are such that there is not much inclination to resort to the application of strict legal processes and rules for problem resolution, it may explain why there appears to be a distinct aversion or reluctance to become involved in formal and, even, informal insolvency processes.

It is difficult to suggest solutions to the problems which arise from this. However, the development, as mentioned earlier, of the informal "work-out" insolvency process (which provides, at least, the possibility of a forum for negotiation and mediation) might help to overcome the problem in those countries in which problems of this nature are more critical.

(b) The "stigma" of insolvency

The so-called "stigma" of insolvency is part of the culture of every country, everywhere. Simply stated, it means (or represents) financial failure, to which few persons would care to admit. Transposed to a corporation it means that, in the minds of the owners or directors of a corporation, the failure of the corporation represents their failure. That is sometimes accompanied by "peer" judgment resulting in business and social disgrace.

One suspects that the presence of cultural elements in many of the RETA economies possibly heightens a greater sense of "stigma" in relation to business or financial failure and insolvency than might be found elsewhere. For example, the expression "loss of face" commands considerable respect as a compelling and potentially destructive cultural influence. The effect of the "stigma" of insolvency should not, therefore, be ignored in the RETA economies.

The main problem produced by this type of cultural influence in relation to corporate insolvency is that its presence makes it very difficult to encourage those in charge of a corporation in financial difficulty to admit the difficulty and take early and positive measures in conjunction with their creditors to try and deal with it. The problem is often a breeding ground for desperate and ill-conceived actions which may take the form of denial, avoidance, escape, cover-up, secretiveness or manipulation. Often it might result in plain theft.

(c) Loss of control

Another factor, which is linked to but is not quite the same as the "stigma" influence, concerns a reluctance, based on commercial considerations, to access a formal or informal corporate insolvency regime. There is evidence that a principal factor which occupies the minds of "owners" of financially troubled corporations in many of the RETA economies is the fear of loss of control of the corporation. Whether that is the product of commercial egotism, elitism, stigma or something else, does not really matter. What does matter is that it produces an aversion to anything that might put the corporation in a position where its immediate and long term future might be dictated by others. The result is that relief or remedy, if and when it is eventually sought or imposed, comes far too late.

These are all problems of human nature and the surrounding environment. They are universal problems. They are difficult to deal with. When these influences are brought together, as must be done to obtain a sense of the practical difficulties, a very significant barrier to the application and operation of both a formal corporate insolvency law regime and an informal insolvency practice becomes apparent.

Some measures can help to overcome although not avoid the effect of such influences. The type of policy that a country exhibits toward financial difficulty or insolvency through its insolvency law can produce a counter influence. For example, the United States is often credited with policies in its insolvency law which promises a "fresh start" to the insolvent and which is generally considered to be "debtor friendly". As a result, it is contended, there is a more positive attitude toward accessing the law. Australian insolvency law endeavours to confront the difficulty by providing easy and inexpensive access to formal insolvency procedures, particularly for debtors. This, however, is also coupled with the possibility of sanction if advantage is not taken of that access. It is, thus, a "carrot and stick" approach. In some other countries there is more dependence on the use of sanctions to compel resort to the insolvency law. Directors may be disqualified or otherwise punished if they do not cause the corporation to access the insolvency law.

The development of modern formal rescue processes is, in itself, an advance to help arrest the effect of some of these influences. The availability of a relatively simple and largely non-confrontational process is an advantage to which may be added the prospect of continued ultimate control and ownership of an insolvent corporation.

4.7 Corruption, bribery and fraud

Corruption may be described as the misuse of public or private office for personal gain. It includes bribery. Fraud, in the context of this report, covers both that which may be best described as "hard" fraud and "soft" fraud. Hard fraud is the act of obtaining property or a benefit of whatever description that should rightfully belong or remain with a corporation. Soft fraud is the act of manipulating the accounts, financial statements or other documents of or related to a corporation which has the effect of altering the factual (and legal) position of a company. Soft fraud may, of course, be a necessary initial step toward the commission of hard fraud.

(a) Corruption

Corruption is harmful, seriously harmful, to commercial processes generally. As between those who are party to the corruption, the harm may not seem great. However, in the application of an insolvency law or insolvency related law it can have significant undesirable effects. To contemplate, for example, that the proper commercial enforcement of a security over property of an insolvent corporate debtor or a properly based application for the winding-up or other form of insolvency administration in respect of an insolvent corporate debtor may be hampered or, worse, prevented by corruption within the judiciary, speaks for itself. It undermines proper and normal legal and commercial practices and processes.

Another example presents itself. A corporation obtains a loan from a bank as a result of political or government influence or direction. At the time the loan is made there may be no sufficient nor any commercial assessment of the financial position of the corporate borrower. The corporation becomes insolvent. The same or similar political or government influence now endeavours to ensure that the insolvent corporation is protected (for example, the bank agrees to wait or not do anything). That type of intervention and manipulation is, again, damaging because it can create an unreal commercial position. The bank in that example may be a major creditor and its influence may be dominant, to the prejudice of other creditors, in determining what should happen to the insolvent corporation.

To say, as is sometimes the case, that corruption and bribery is simply part of the "way of life" or that it is acceptable, customary and natural conduct in a country is not acceptable. The probability that corruption might intervene defies any attempt to provide anything approaching a commercially workable formal insolvency administration regime or, for that matter, an informal work-out regime. The necessary commercial conditions to bring debtor and creditors together is absent.

Evidence of the existence of corruption is not always easy to establish. But it undoubtedly exists in many of the RETA economies. How else does one explain, for example, section 8 of the Banking Companies (Recovery of Loans, Advances, Credits and Finances) Act 1997 of Pakistan? It provides that a bank may take proceedings to recover "any amount written off, released or adjusted under any agreement, contract or consent ... if (the bank) can establish that the amount was written off, released or adjusted for political reasons or considerations other than bona fide business considerations" (emphasis added).

(b) Fraud

Fraud committed by one person on another may, again, present itself as simply a problem between those persons. However, it becomes a much expanded problem when assets or property of an insolvent corporation are put out of reach of the creditors as a result of fraud. In some cases it is the commission of the fraud which makes the corporation insolvent.

Corporate fraud is a problem throughout the world. The origins of some of the biggest (and most notorious) cases of corporate insolvency can be traced to fraud committed on the corporation. Relatively speaking, the corporation, because it is a passive, inanimate legal person, is an easy prey for fraudulent managers and owners. The fraud goes undetected and is often only discovered as a result of inquiry and examination when the insolvent corporation is liquidated. In that respect the formal insolvency administration process is a valuable aid to discovering fraud (unfortunately it is also another reason why those in control of an insolvent corporation may resist as far as possible any application of a formal insolvency process).

Prosecution of fraud is not the appropriate province of an insolvency law. It is the task of other regulatory authorities. But the administration of an insolvent corporation can provide substantial evidence to enable prosecution. The real problem for insolvency law lies in recovery of the proceeds of the fraud. If fraud, though detected, cannot be recovered, it is as though the corporate debtor (or persons associated with it) hold an additional tool in the bargaining or negotiating process.

Resources of some considerable magnitude are usually required to detect, trace and recover the proceeds of fraud (because quite often the effect of the fraud is to leave the corporation with no or very few assets). Sometimes, therefore, government intervention to provide resources or otherwise prosecute those involved in the fraud is necessary. Fraud also raises cross-border insolvency issues. The proceeds of fraud are rarely found in the domestic jurisdiction of the corporate debtor.

4.8 Issues for discussion 1 To what extent has the past influence of other countries hampered or contributed to the development and practical application of an acceptable insolvency law or insolvency based practice in many of the RETA economies? 2 Would it be preferable for a number of the RETA economies to abandon completely their existing, largely inherited, insolvency law and practice system and develop completely new laws and practices? 3 What effect does the process of "globalisation" have on the development of insolvency laws and practices? 4 Are there difficulties in accommodating different legal system traditions in a basic approach to insolvency law and practice? 5 How significant are the problems of attitudes to strict legal processes, stigma and loss of control in relation to insolvency law and practice? How best might these be overcome? 6 How real are the problems of corruption and fraud in the context of insolvency law and practice? What might be done to counter such problems?