Bankruptcies, Bailouts, and Some Political Economy of Corporate Reorganization

Abstract

Bankruptcy has long been the standard approach to reorganizing failing corporate entities. In recent years, bailout has appeared as an alternative option, whereby a governmental entity takes charge of the reorganization. At the macro or systemic level, there is a Coase-like invariance proposition at work in which a failing concern is replaced by a going concern under either process. In this respect, our analysis suggests that little is at stake in choosing between different points of reorganization. Either way, capital losses will be distributed within the society to restore solvency to the failing enterprise. Significant differences arise, however, once we move beyond the point of reorganization. The choice between bankruptcy and bailout is fundamentally a choice between alternative arrangements for corporate governance, and not about transforming failing concerns into going concerns because this will happen under either arrangement.