U.S. Senator John Cornyn, Texas Republican, on Tuesday re-introduced the Taxpayer Protection and Responsible Resolution Act to replace taxpayer-funded bailouts for large financial institutions. The bill provides for a new bankruptcy chapter just for banks, replacing some of the provisions for failed banks in the Dodd-Frank Act.

“The only way to appropriately mark the fifth anniversary of Dodd-Frank is by repealing the most egregious portions of the bill and replacing them with a solution that ends ‘too big to fail’ once and for all,” Cornyn said in a press release. “This legislation abolishes Dodd-Frank’s bailout authority and replaces it with an orderly bankruptcy process that imposes losses on banks — not taxpayers.”

The legislation, cosponsored by Sen. Pat Toomey, a Republican from Pennsylvania, creates a new, specialized bankruptcy chapter, to be called Chapter 14, for certain financial corporations and eliminates the “orderly liquidation authority” in Title II of Dodd-Frank — “an ad hoc process ripe for political manipulation that provides for yet another bailout,” according to the press release.

Under Chapter 14, a failed bank would go bankrupt, leaving its owners and unsecured creditors on the hook for its bad decisions, not taxpayers, say the bill’s co-sponsors.

To avoid systemic risk to the financial system, which is what has led the government to use bailouts in the past, Chapter 14 would enable all the failed bank’s assets and the liabilities that pose systemic risk to be transferred to a new “bridge” company. This new, solvent, company would go on meeting the failed bank’s obligations, while all losses would be incurred by the owners of the failed bank.

As a Harvard Law School Bankruptcy Roundtable explains, “Chapter 14 would be run by a special group of financially experienced district judges, could allow for the FDIC to be appointed as trustee, and would have no period of plan exclusivity. …  The Senate bill would add a two-day stay to bankruptcy’s swap safe harbors to give the trustee a chance to transfer the entire swap portfolio to a new company that is solvent. Repos, however, are treated like secured debt, but with the ability to immediately sell off high quality collateral (though not non-agency mortgage-backed securities).”

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