Bankruptcy’s Three Ages

Embedded in the American Bankruptcy Code are three decision-making methods—administration, a deal among existing creditors, and a sale of the firm intact. The Code’s text and intent privilege a deal among creditors and stakeholders, but it dispenses with the deal at times, empowering the judge to administratively determine the validity of a distribution. Elsewhere, the Code dispenses with both administration and the deal and uses the market to sell the firm.

If we stretch out the Code over the past century, accordion-like, we see core provisions emerging in practice, dominating for a time, and then fading in importance. Each decision-making method has had its heyday. Each method’s rise and fall usually fit with underlying market conditions and basic bankruptcy goals, sometimes mapped to political ideology currents, and often reflected the influence of powerful groups, such as well-organized creditors. Sometimes bankruptcy overshoots underlying market conditions, perhaps due to an ideological push or excessively influential interests, but often enough, there’s a rough market fit. This market-structure analytic can tell us something about efforts to transplant Chapter 11 to other settings. The American chapter 11 is often viewed around the world as a success (and I concur with that view). But those seeking to import its structure should be careful, as its success ties more than is generally appreciated to its fit with market conditions, some of which may differ from market conditions in nations that might seek to import Chapter 11.

The market-oriented explanation I offer in my paper for bankruptcy’s three ages contrasts with prior explanations (some of which I contributed to), which can be summarized as learning, lawyering, and rent-seeking. First, the learning explanation looks to incremental evolution and experiential learning to explain the shifts in decision-making modes; practical judges and lawyers sought to solve problems and, as they did, they came up with new and better means to reorganize firms. In contrast to evolutionary improvement, the second theory explains shifts by the world views (and narrow interests) of the lawyers who wrote the bankruptcy laws. Third, creditor rent-seeking has been brought forward to explain important Code and practice shifts. The market-based explanation I offer here does not displace learning, lawyering, and rent-seeking as explanations, but needs to be put on the same shelf as the preexisting three. I bring forward reasons why it fits well with the broad outline of the decision-making shifts during the past century.

Mark J. Roe is the David Berg Professor of Law at Harvard Law School.