Weekly Economics Seminar by S. K. Ritadhi
November 13 @ 1:30 pm - 2:40 pm
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Title: Unearthing Zombies: Regulatory Intervention To Aid Legal Reform
Speaker: S. K. Ritadhi, Reserve Bank of India
Abstract: Poor bankruptcy laws can result in entrenched systems of evergreening in developing countries. We exploit, as a natural experiment, the introduction of a new bankruptcy law in India and examine the likelihood of loans being classified as distressed, a precursor to starting bankruptcy proceedings. We find that the bankruptcy law had only a limited impact on banks classifying loans as distressed, and this impact was particularly muted for weaker banks. A subsequent regulatory intervention implemented by the Reserve Bank of India removed lender discretion in recognizing loans as distressed, and in initiating subsequent bankruptcy proceedings. The regulatory intervention resulted in a 60 percent increase in recognition of distressed assets, though with more muted effects in weaker banks. Consequently, credit was reallocated away from distressed firms and towards investment-grade firms. Overall, our results suggest that bank health is an important determinant of the effectiveness of bankruptcy reform, and regulatory intervention can successfully overcome poor enforcement arising from a weakly capitalized banking sector.