*Stanley A. Star Distinguished Professor of Law & Business, Duke University School of Law; Senior Fellow, the Centre for International Governance Innovation (CIGI). The author thanks Stuart Benjamin, Jeremy C. Kress, Shitong Qiao, Jonathan Seymour, and participants in a faculty workshop at Duke Law School for valuable comments and Michelle Lou, Cameron (“Cam”) Irwin, Brendan Reichart, and especially Chorong Song for invaluable research assistance. The author also gratefully acknowledges the receipt of Fuller-Perdue Grant funding.

[1]Bankruptcy, Black’s Law Dictionary (11th ed. 2019). See also 11 U.S.C. §§ 301, 303(h)(1). The terms “case” and “proceeding” are often used interchangeably, although U.S. bankruptcy law favors “case.” See, e.g., In re Royal, 197 B.R. 341, 345 (Bankr. N.D. Ala. 1996) (favoring use of the term “case”).

[2]Title 11 of the United States Code. Bankruptcy law also can include certain common law insolvency-related proceedings such as assignments for the benefit of creditors and receiverships. Gregg Cartage & Storage Co. v. United States, 316 U.S. 74, 80 (1942). This Article’s references to bankruptcy law shall be deemed to include those proceedings.

[3]11 U.S.C. Chapter 11 governs reorganization, and 11 U.S.C. Chapter 7 governs liquidation. Other things being equal, entities that have an inherently good business but excessive debt (“good company, bad balance sheet”) are most suitable for reorganization. See, e.g., DIP (Debtor-in-Possession) Rating Criteria, FitchRatings (Nov. 30, 2020), https://www.fitchratings.com/research/corporate-finance/dip-debtor-in-possession-rating-criteria-30-11-2020 (explaining lending rating criteria for firms in bankruptcy).

[4]Given the inherent legal uncertainties of bankruptcy, even the best protection makes bankruptcy only a remote likelihood. In practice, those uncertainties prevent most entities from being deemed “bankruptcy proof.” Cf. Forrest Pearce, Bankruptcy-Remote Special Purpose Entities and a Business’s Right to Waive its Ability to File for Bankruptcy, 28 Emory Bankr. Dev. J. 507, 520-21 (2012) (explaining how General Growth’s SPE went into bankruptcy despite various provisions intended to make it “bankruptcy remote”).

[5]Cf. David F. Forti & Allison M. Whip, “Bankruptcy Remote” Special Purpose Entities in Commercial Mortgage Lending: Characteristics, Enforcement and Limitations, ABA (Fall 2020), https://www.americanbar.org/groups/real_property_trust_estate/publications/ereport/rpte-ereport-fall-2020/bankruptcy-remote/ (describing the main goal of bankruptcy remoteness as ensuring that “the collateral property and its financial and legal structure can essentially be boxed and then evaluated, so that things outside of that box (like the insolvency of an affiliate) will not have an adverse effect”).

[6]Cf. Melvin Aron Eisenberg, Megasubsidiaries: The Effect of Corporate Structure on Corporate Control, 84 Harv. L. Rev. 1577 (1971) (describing the growth of massive subsidiary corporations and the legal and economic reasons behind the development); Patrick L. Cusato, The Economically Dominant Subsidiary: When Can Shareholders Maintain Control, 37 Syracuse L. Rev. 949, 949 (1986) (“Recently, there has been tremendous growth in the use of subsidiary corporations.”).

[7]In the United States alone, securitization issuance reached a total of approximately $4.24 trillion in 2020. Jordan E. Yarett, Evan R Berman, & Nicole D Martin, Structured Finance and Securitisation in the United States: overview, Practical L. Country Q&A (June 1, 2021), https://uk.practicallaw. thomsonreuters.com/5-501-4117?transitionType= Default&contextData=(sc.Default). That same year, outstanding project-finance loans totaled approximately $277.6 billion globally, and about $88.3 billion in the Americas. Global Project Finance Review 2020, Refinitiv (Feb. 27, 2023) https://thesource.lseg.com/TheSource/get-file/download/b75a2ed9-d685-492c-b3d4-c24a5cf5d4f3.

[8]See, e.g., Adam B. Weissburg & John Matthew Trott, Special Purpose Bankruptcy Remote Entities, L.A. Law., Jan. 2004, at 12 (recognizing that in structured finance transactions, lenders often require bankruptcy remoteness). These types of financial transactions are described infra in Part I.A.

[9]Utilities generally are private-sector companies that generate or otherwise provide the public with necessities such as power, clean water, and communications. 73B C.J.S. Public Utilities § 1.

[10]Steven L. Schwarcz, Ring-Fencing, 87 S. Cal. L. Rev. 69, 105–06 (2013). Ring-fencing is described infra in Part I.B.

[11]Ring-Fencing, supra note 10, at 72, 89–91.

[12]Cf. Kenneth Ayotte & Stav Gaon, Asset-Backed Securities: Costs and Benefits of ‘Bankruptcy Remoteness,’ 24 Rev. Fin. Stud. 1299, 1329 (2011) (arguing that the impact of the LTV Steel decision (In re LTV Steel Co., 274 B.R. 278 (Bankr. N.D. Ohio 2001)) on securities pricing shows that bankruptcy remoteness can significantly lower borrowing costs). Cf. infra notes 109-111 and accompanying text (discussing additional sources).

[13]This occurs by the entity issuing different classes of securities in a senior-subordinated structure. Kathryn Judge, Fragmentation Nodes, A Study in Financial Innovation, Complexity, and Systemic Risk, 64 Stan. L. Rev. 657, 673–76 (2012).

[14]How Do Interest Rates Affect Investments?, U.S. Bank (Mar. 1, 2022), https://www.usbank.com/financialiq/invest-your-money/investment-strategies/how-do-interest-rates-affect-investments.html (describing how lower borrowing costs can spur investments and create stock market gains). Cf. Kate Marino, How Higher Borrowing Costs Hit Corporate America, Axios (May 17, 2022), https://www.axios.com/2022/05/17/higher-borrowing-costs-corporate-america (reporting that borrowing activity for “high yield” companies “has fallen off a cliff” five months after the Federal Reserve hinted at raising interest rates).

[15]See, e.g., Katherine J. Baudistel, Bankruptcy-Remote Special Purpose Entities: An Opportunity for Investors to Maximize the Value of Their Returns While Undergoing More Careful and Realistic Risk Analysis, 86 S. Cal. L. Rev. 1309, 1314 (2013) (explaining that the reason for utilizing SPEs in structured finance is to allocate the risks to different parties).

[16]Cf. James A. Swaney, Externality and Community, 15 J. Econ. Issues 615, 615 (1981) (“Externality is synonymous with third-party effects or uncompensated side effects and is usually defined as divergence between private and social costs.”) (emphasis in original).

[17]See, e.g., Ronald S. Borod, Belling the Cat: Taming the Securitization Beast
Without Killing It, 31 Rev. Banking & Fin. L. 643, 644–47 (2012). Cf. Jason H.P. Kravitt et al., Some Thoughts on Financial Regulatory Reform Adopted in Response to the Financial Crisis of 2008/9, 37 Rev. Banking & Fin. L. 779, 784-85 (2018) (observing that “there is no doubt that securitization—or, more precisely, the manner in which securitization was practiced—had a major role in precipitating the crisis”; but “that, when utilized properly and wisely, securitization is an important source of funding for the so-called “real economy,” and thus “regulators and the industry should be in agreement that the goal of future regulation should be to improve securitization practices without unduly restricting the innovation and responsiveness that have been the hallmarks of securitization since its inception”).

[18]Cf. Ayotte & Gaon, supra note 12, at 1302 (analyzing the economics of bankruptcy remoteness in a limited transactional context).

[19]See infra notes 104-105 and accompanying text (describing Kaldor-Hicks efficiency).

[20]Cf. Steven L. Schwarcz & Ori Sharon, The Bankruptcy-Law Safe Harbor for Derivatives: A Path-Dependence Analysis, 71 Wash. & Lee L. Rev. 1715 (2014) (arguing that although the 11 U.S.C. §§ 555-562 exemptions—referenced infra notes 22-23 and accompanying text—were claimed to reduce systemic risk, they actually may exacerbate that risk).

[21]The Article’s scope also excludes the occasional use of certain bankruptcy-remote techniques in structuring finance subsidiaries of manufacturing firms.

[22]Compare 11 U.S.C. § 1110 (allowing foreclosures against aircraft and shipping-related collateral) with 11 U.S.C. § 362 (automatically staying foreclosure actions). The § 1110 exemptions were lobbied by equipment manufacturers. Title XI Bankruptcy Reform: Hearing on S. 1992 and S. 1993 Before the Subcomm. on Merchant Marine of the S. Comm. On Com., Sci., and Transp., 99th Cong. 82 (1986) (statement of Department of Commerce) (acknowledging the claim that 11 U.S.C. § 1110 was “included in the Code only because of ‘heavy lobbying by equipment manufacturers’”).

[23]See 11 U.S.C. §§ 555-562 (setting forth those exemptions). The §§ 555-562 exemptions were lobbied by the International Swaps and Derivatives Association (ISDA), the leading derivatives-industry trade organization. See About ISDA, Int’l Swaps & Derivatives Ass’n, https:/‌/‌www.isda.org/‌about-isda. See generally Gina-Gail S. Fletcher, Engineered Credit Default Swaps: Innovative or Manipulative?, 94 N.Y.U. L. Rev. 1073 (2019) (discussing ISDA).

[24]See supra notes 8-10 and accompanying text.

[25]SPEs sometimes are called special-purpose vehicles, or SPVs, the terms being synonymous. To minimize operating risks and transaction costs, an SPE’s organizational documents normally strictly limit its business purposes and functions.

[26]John A. Pearce II & Ilya A. Lipin, Special Purpose Vehicles in Bankruptcy Litigation, 40 Hofstra L. Rev. 177, 179 (2011). For a more practice-focused discussion of applying bankruptcy remoteness to structured finance transactions, see Committee on Securitization and Structured Finance of the Business Law Section of the American Bar Association, White Paper on Bankruptcy Remoteness, [forthcoming in The Business Lawyer 2022-23].

[27]Cf. infra notes 53-54 and accompanying text (discussing covered bonds which, in Europe, are sometimes structured under statutory safe harbors).

[28]See Steven L. Schwarcz, What is Securitization? And for What Purpose?, 85 S. Cal. L. Rev. 1283, 1292–93 (2012).

[29]See id. at 1293, 1295–98 (explaining how the SPE’s financial assets serve as a principal source of payment). The SPE’s debt securities are often called asset-backed securities (ABS). When specifically backed by financial assets consisting of mortgage loans, those debt securities are commonly called mortgage-backed securities (MBS). Id. at 1292 (identifying ABS and MBS as securities). ABS are the subject of the economic analysis of bankruptcy remoteness by Professors Ayotte and Gaon, supra note 12.

[30]Baudistel, supra note 15, at 1314–15.

[31]Pearce & Lipin, supra note 26, at 179; Thomas J. Gordon, Securitization of Executory Future Flows As Bankruptcy-Remote True Sales, 67 U. Chi. L. Rev. 1317, 1318 (2000).

[32]See 11 U.S.C. § 301.

[33]See 11 U.S.C. § 303.

[34]See infra notes 38-45 and accompanying text (discussing substantive consolidation).

[35]Steven L. Schwarcz, Structured Finance, A Guide to the Principles of Asset Securitization § 3:2.1, at 3-3 (3d ed. 2002) (hereinafter, “Structured Finance”).

[36]Id. § 3:3, at 3-21–3-22.

[37]Substantive consolidation could allow creditors of the firm that sells financial assets to an SPE to assert their claims directly against the SPE’s assets. By bringing the SPE’s assets into the bankruptcy case, substantive consolidation also could impose bankruptcy law’s automatic stay on the right of the SPE’s creditors to be repaid from those assets.

[38]Entity liability, or the principle that a firm is legally separate from its shareholders, parents, and affiliates, is a fundamental tenet of U.S. corporate law. Dole Food Co. v. Patrickson, 538 U.S. 468 (2003). Only in a few situations does American law allow enterprise liability—the attachment of liability to the whole of an economically integrated enterprise notwithstanding the formal legal separateness of its component entities. Lynn LoPucki, The Death of Liability, 106 Yale L.J. 1, 67 (1996). The best known example is “piercing the corporate veil.” Substantive consolidation has been analogized to corporate veil-piercing on steroids. Cf. Steven L. Schwarcz, Collapsing Corporate Structures: Resolving the Tension Between Form and Substance, 60 Bus. Law. 109 (Nov. 2004) (analyzing when enterprise liability should override entity liability).

[39]Id. Although substantive consolidation usually arises in the context of affiliated entities in bankruptcy, a court could order a substantive consolidation even if some of the entities are not in bankruptcy. See, e.g., Sampsell v. Imperial Paper & Color Corp., 313 U.S. 215 (1941) (consolidating the assets of corporation with those of its shareholders); 5 William Miller Collier, Collier on Bankruptcy ¶ 1100.06[3], at 1100‑44 to ‑46 (15th ed. 1989).

[40]To that end, courts normally consider and balance a list of factors derived from In re Vecco Constr. Indus., 4 B.R. 407, 410 (Bankr. E.D. Va. 1980). See discussion in 5 William Miller Collier, Collier on Bankruptcy ¶ 1100.06[3] (15th ed. 1989).

[41]In re Auto-Train Corp., 810 F.2d 270 (D.C. Cir. 1987).

[42]Eastgroup Props. v. S. Motel Ass’n, 935 F.2d 245, 249 (11th Cir. 1991); Bonham v. Compton (In re Bonham), 229 F.3d 750, 766 n.11 (9th Cir. 2000). 

[43]Eastgroup Props., 935 F.2d at 249; citing In re Auto-Train Corp., 810 F.2d 270 (D.C. Cir. 1987).

[44]In re Augie/Restivo Baking Co., Ltd., 860 F.2d 515 (2d Cir. 1988); In re Owens Corning, 419 F.3d 195 (3d Cir. 2005).

[45]In re Owens Corning, 419 F.3d at 211.

[46]Committee on Securitization and Structured Finance, ABA Business Law Section, Bankruptcy Remoteness: A Summary Analysis, 77 The Business Lawyer (October 2022).

[47]See supra note 31 and accompanying text.

[48]Structured Finance, supra note 35, § 4:1, at 4-3.

[49]See generally id. Chapter 4.

[50]Carl S. Bjerre, Project Finance, Securitization and Consensuality, 12 Duke J. Comp. & Int’l L. 411, 413 (2002) (“[I]n a structured finance transaction, the lender relies for repayment on assets that are legally separate from the borrower, so as to be independent of certain risks related to the possible bankruptcy of the borrower.”).

[51]Governments sometimes help to subsidize the construction risk for publicly valuable projects. The U.S. International Development Finance Corporation (“DFC”), for example, “invest[s] across sectors including energy, healthcare, critical infrastructure, and technology,” including providing protection for project-finance construction risk. The DFC’s goal is to “make[] America a stronger and more competitive leader on the global development stage … .” See https://www.dfc.gov/who-we-are.

[52]When the proceeds of an SPE’s securities are used to construct rent-generating residential or commercial real estate projects, the transaction often is called a real estate securitization. Technically, though, that transaction could be viewed as a type of project financing.

[53]Cf. Steven L. Schwarcz, Securitization, Structured Finance, and Covered Bonds, 39 J. Corp. L. 129 (2013) (comparing securitization and covered bond transactions).

[54]Ralf Burmeister, et al., Overview of Covered Bonds, in ECBC European Covered Bond Factbook 85, 97–98 (Wolfgang Kälberer, et al. ed., 2009).

[55]See, e.g., Charles E. Harrell et. al., Securitization of Oil, Gas, and Other Natural Resource Assets: Emerging Financing Techniques, 52 Bus. Law. 885, 893 (1997). Cf. 26 C.F.R. § 1.636-3(a) (defining the term “production payment”).

[56]Ring-fencing is also sometimes referred to as “ringfencing.”

[57]See, e.g., Charles E. Peterson & Elizabeth M. Brereton, Utah State Dep’t of Commerce, Report on Ring-Fencing 35–39 (Sept. 2005), available at https://pscdocs.utah.gov/telecom/05docs/0505301/Dir%20Test%20C%20Peterson%20DPU%20Exhibit%2010.1.pdf (summarizing selected state laws that require the ring-fencing of public utility companies).

[58]The Financial Services (Banking Reform) Act 2013, Part 9B § 142.

[59]Former Federal Reserve Governor Daniel K. Tarullo, for example, proposed ring-fencing the U.S. operations of large foreign banks and of systemically important financial institutions. Jonathan Spicer, Update 2-Fed’s Tarullo urges global action on regulating banks, Reuters, Feb. 22, 2013, available at https://www.reuters.com/article/usa-fed-tarullo-regulation/update-2-feds-tarullo-urges-global-action-on-regulating-banks-idUSL1N0BMDRM20130223.

[60]See Testimony of Daniel Schwarcz before the U.S. House of Representatives Subcommittee on Insurance, Housing and Community Opportunity regarding “Insurance Oversight and Legislative Proposals,” November 16, 2011 (critiquing a proposal by the National Association of Insurance Commissioners (“NAIC”) for a “windows and walls” approach to insurance group regulatory supervision). That approach is described at

[61]Ring-Fencing, supra note 10, at 71–72.

[62]See supra notes 5-6 and accompanying text.

[63]Ring-Fencing, supra note 10, at 73.

[64]Id. at 73–74 (citations omitted). The protection from affiliate risks reflects the increasing use of holding company structures, in which the utility company is often a subsidiary of one or more operating companies that may engage in riskier transactions. Compare Ring-Fencing, supra note 10, at 74, with supra note 6 and accompanying text (observing that affiliate risks are “especially important for an entity that is part of a larger corporate group, as most entities are today”).

[65]See Peterson & Brereton, supra note 57, at 35–39 (summarizing the legislation of Maryland, Wisconsin, Virginia, Oregon, and New Jersey that uses ring-fencing techniques to achieve bankruptcy remoteness for utility companies).

[66]Richard D. Cudahy & William D. Henderson, From Insull to Enron: Corporate (Re)Regulation After the Rise and Fall of Two Energy Icons, 26 Energy L.J. 35, 57 (2005).

[67]Id. (also explaining why holding company structures can enable corporate groups to attract and cultivate larger pools of engineering talent).

[68]Fred Grygiel & John Garvey, Fencing in the Regulated Utilities, Public Utilities Fortnightly 32 (Aug. 2004).

[69]See, e.g., Public Citizen, “Changes in the Financial Health of the Electric and Natural Gas Utility Industries Since the PUHCA Hearings of 2001,” March 2004, available at http://www.citizen.org/documents/industryhealth.pdf (discussing the wave of bankruptcies that resulted from PUHCA-exempt or “non-utility” businesses in 2003).

[70]Grygiel & Garvey, supra note 67, 68, at 32.

[71]Id. In 1997, for example, Enron acquired Portland General Electric (PGE), which was regulated by the Oregon Public Utility Commission (OPUC). Peterson & Brereton, supra note 64, 65, at 13 (recommending the use of ring-fencing in Utah and discussing the successful use of ring-fencing by the state of Oregon in the case of Portland General Electric). The merger between Enron and PGE was contingent upon terms stipulated by the OPUC, which (among other things) mandated that PGE be held by Enron in a bankruptcy-remote structure. Id. at 15. When Enron eventually filed for bankruptcy, these ring-fencing measures protected PGE from bankruptcy. Miles H. Mitchell et al., Md. Pub. Serv. Comm’n, Commission Staff Analysis of Ring-Fencing Measures for Investor-Owned Electric and Gas Utilities 14 (Feb. 18, 2005), available at https://www.psc.state.md.us/wp-content/uploads/RevisedRing-FencingReport.pdf (recommending the use of ring-fencing in Maryland and discussing the successful use of ring-fencing by the state of Oregon in the case of Portland General Electric).

[72]Cf. supra note 27 and accompanying text.

[73]This tension engages the broader issue of contracting around bankruptcy. See Steven L. Schwarcz, Rethinking Freedom of Contract: A Bankruptcy Paradigm, 77 Tex. L. Rev. 515 (1999) (hereinafter “Rethinking Freedom of Contract”).

[74]Cf. Michael J. Trebilcock, The Limits of Freedom of Contract 7 (1993) (observing that “if two parties are to be observed entering into a voluntary private exchange, the presumption must be that both feel the exchange is likely to make them better off, otherwise they would not have entered into it.”).

[75]Rethinking Freedom of Contract, supra note 73, at 535–39.

[76]See supra note 75 and accompanying text.

[77]Recall that the Code codifies U.S. bankruptcy law. See supra note 2 and accompanying text.

[78]Cf. Robert K. Rasmussen, Debtor’s Choice: A Menu Approach to Corporate Bankruptcy, 71 Tex. L. Rev. 51, 52, 61-62 (1992) (arguing that viewing bankruptcy law as inherently a set of mandatory rules is anomalous because most rules in contract law are default rules, and that “one must provide a justification for invoking mandatory rules”).

[79]See, e.g., Barrentine v. Arkansas-Best Freight Sys., Inc., 450 U.S. 728, 740 (1981) (holding
that rights under the Fair Labor Standards Act “cannot be abridged by contract or otherwise waived” if doing so would “‘nullify the purposes’ of the statute and thwart the legislative policies it was designed to effectuate”); Gilmer v. Interstate/Johnson Lane Corp., 500 U.S. 20, 26–8­ (1991) (holding that the right to bring claims in federal court under the Age Discrimination in Employment Act can be contractually waived in favor of an arbitration agreement because, so long as a person may effectively pursue his statutory cause of action in the arbitral forum, the statute’s underlying purposes and policies are not compromised). Cf. Alan Schwartz, A Contract Theory Approach to Business Bankruptcy, 107 Yale L.J. 1807, 1840 (1998) (arguing that a mandatory rule is justifiable only if it is necessary to protect the integrity of the system itself or it enhances ex post efficiency when the parties themselves cannot reach the efficient outcome on their own).

[80]See supra notes 4-5 and accompanying text.

[81]These are two of the fundamental policies that underlie bankruptcy law, including the Code. See Rethinking Freedom of Contract, supra note 73, at 542 (citing to Report of the Commission on the Bankruptcy Laws of the United States, H.R. Doc. No. 93-137, pt. 1, at 75 (1973)).

[82]Cf. 11 U.S.C. 303(h)(1) (effectively restricting involuntary bankruptcy to entities that generally are not paying their debts as they come due). Voluntary bankruptcy filings have no explicit conditions, but entities that can pay their debts as they come due rarely file voluntarily for bankruptcy; illiquidity appears to be the main reason for bankruptcy filings. Cf. Marc Martos-Vila & Zongtao Shi, Bankruptcy Filings During and After the COVID-19 Recession, Bus. L. Today (Mar. 16, 2022) (observing that “economic downturns can sufficiently reduce liquidity such that debtors are unable to meet debt obligations as they become due and might require court-driven solutions”).

[83]Cf. supra notes 29-30 & 48 and accompanying text (explaining that investors in the SPE’s securities take the risks associated with the financial assets, but they do not take bankruptcy risks associated with sponsors or originators).

[84]11 U.S.C. § 510(a). 

[85]See, e.g., 11 U.S.C. § 1129(b)(2)(A) (recognizing the priority of secured claims).

[86]Parties are not allowed to contract around a federal statutory scheme if Congress specifically precludes them, as through an anti-waiver provision. See, e.g., United States v. Mezzanatto, 513 U.S. 196, 200-01 (1995). Bankruptcy-remote structuring should not, however, implicate any anti-waiver provisions in the Code.

[87]See supra notes 31 & 47 and accompanying text.

[88]See supra note 29 and accompanying text.

[89]Steven L. Schwarcz, Securitization Post-Enron, 25 Cardozo L. Rev. 1539, 1574 (2004).

[90]Courts also appear reluctant to find that contracting around a statutory scheme thwarts the statute’s policy. Rethinking Freedom of Contract, supra note 73, at 538. Cf. Martin v. Spring Break ‘83 Productions, L.L.C., 688 F.3d 247, 255–56 (5th Cir. 2012) (finding a private agreement to settle an employee’s Fair Labor Standards Act claim valid).

[91]The above analysis focused on bankruptcy-remote structuring as currently performed. This Article does not address whether parties should be allowed to engage contractually in future bankruptcy-remote structuring that might be performed very differently.

[92]U.S. Constitution, Art. VI, Para. 2.

[93]See, e.g., Xuan-Thao Nguyen, Contract Impossibility from the Spanish Flu of 1918 to the Covid-19 Pandemic, 76 N.Y.U. Ann. Surv. Am. L. 779, 820 (2021) (stating that contract law is state law).

[94]See supra note 74 and accompanying text.

[95]See supra notes 16-17 and accompanying text.

[96]Rethinking Freedom of Contract, supra note 73, at 551–52.

[97]Id. at 552.

[98]Trebilcock, supra note 74, at 20.

[99]Cf. Stephen M. Bainbridge, Corporation Law and Economics 425 (2002) (observing that material externalities created by corporate conduct should be “constrained through general welfare legislation, tort litigation, and other forms of regulation”).

[100]See, e.g., Lisa Grow Sun & Brigham Daniels, Externality Entrepreneurism, 50 U.C. Davis L. Rev. 321, 331 (2016) (illustrating the difficulty of compensating for second order externalities caused by an oil spill: “the spilled oil may contaminate the stock of local shellfish, which, in turn, damages the livelihood of local fishermen, which hurts other local businesses no longer patronized by the fishermen, which leads to further layoffs and economic distress, which decreases local property values, which decimates the budget of local schools, and so on …”).

[101]Cf. Exec. Order No. 12866, 58 Fed. Reg. 51,735 (Oct. 4, 1993) (requiring all federal agencies to conduct a cost-benefit analysis for every “major” rule).

[102]See Part III.B, infra.

[103]See supra note 101 and accompanying text.

[104]See, e.g., Matthew D. Adler & Eric A. Posner, Implementing Cost-Benefit Analysis When Preferences Are Distorted, 29 J. Legal Stud. 1105, 1108 (2000) (stating that CBA traditionally parallels Kaldor-Hicks efficiency).

[105]Richard A. Posner, Economic Analysis of Law § 1.2, at 13-14 (9th ed. 2014) (observing that a transaction is Kaldor-Hicks efficient even if the “winners” (i.e., the debtor and the contracting creditors) do not compensate the “losers” (i.e., nonconsenting creditors and any other non-contracting third parties)). Cf. Richard Posner, Cost-Benefit Analysis: Definition, Justification, and Comment on Conference Papers, in Cost-Benefit Analysis: Legal, Economic, and Philosophical Perspectives 318–19 (Matthew D. Adler & Eric A. Posner, eds.) (observing that “efficiency in the Kaldor–Hicks sense—making the pie larger without worrying about how the relative size of the slices changes—is a social value”).

[106]See supra note 74. Cf. Alan Schwartz, Contracting About Bankruptcy, 13 J. L. Econ. & Org. 127, 129-30 (1997) (arguing that prebankruptcy contracting could lead to an optimal bankruptcy procedure because the parties, in order to reach agreement, effectively would have to balance the debtor’s private benefits with the creditors’ monetary return).

[107]Anat R. Admati, The Missed Opportunity and Challenge of Capital Regulation, Nat’l. Inst. Econ. Rev. No. 235, R4, R5 (Feb. 2016). Cf. Caroline Cecot, Who Benefits from Cost-Benefit Analysis?, Notice & Comment (Oct. 13, 2021), available at https://www.yalejreg.com/nc/symposium-reviving-rationality-part-10/ (arguing from a welfare economics perspective that CBA can, and should, consider the socially relevant distribution of regulatory benefits and costs); Matthew D. Adler, Benefit-Cost Analysis and Distributional Weights: An Overview, 10 Rev. Env’t Econ. and Pol’y 264 (2016) (arguing that CBA should take into account distributional concerns). The reference in the above text to public benefits and social costs means, of course, net public benefits and net social costs. That distinction is likely de minimis for bankruptcy-remote structuring.

[108]Although this Article hereinafter refers to “public benefits” and “social costs,” no difference is intended between the terms “public” and “social.”

[109]See supra note 65 and accompanying text. For certain other cost-benefit analyses of ring-fencing, see Ring-Fencing, supra note 10, at 99–104.

[110]Meredith S. Jackson, Leap of Faith: Asset-Based Lending to Asset-Backed Securitization—A Case Study, 2 Stan. J.L. Bus. & Fin. 193, 196 (1995); Pearce & Lipin, supra note 26, at 186 (2011).  See also supra note 12 and accompanying text. These lower costs and more favorable interest rates are offset to a small extent by transaction costs. Cf. Pearce & Lipin, supra note 26, at 190 (observing that bankruptcy-remote structuring involves transaction costs, including attorneys’ fees and rating-agency fees).

[111]See supra note 5 and accompanying text.

[112]Edward M. Iacobucci & Ralph A. Winter, Asset Securitization and Asymmetric Information, 34 J. Legal Stud. 161 (2005). Cf. Salman Shah & Anjan V. Thakor, Optimal Capital Structure and Project Financing, 42 J. Econ. Theory 209, 211–12 (1987) (observing that investors do not need to consider the sponsor’s creditworthiness or overall cash flows; they only need to evaluate the SPE’s cash-flow generating capability).

[113]See, e.g., James J. Croke, Jr., Project Finance and Securitization: A Natural Hybrid, 18 Transnat’l Law. 159, 161–62 (2004) (observing that structured finance “structures offer the ability to tap into additional funding sources, to access better and potentially cheaper funding, [and] to enhance the diversity of funding sources …”).

[114]See, e.g., Adriana Z. Robertson, Shadow Banking, Shadow Bailouts, 43 Del. J. Corp. L. 459 (2019). See also James A. Rosenthal & Juan M. Ocampo, Analyzing the Economic Benefits of Securitized Credit, 1(3) J. Applied Corp. Fin. 32 (1988) (explaining that risk exposure is more limited in securitization transactions because investors know exactly what risks they are taking).

[115]See, e.g., Structured Finance, supra note 35, § 1:1, at 1-5 (observing that “the securities issued by the [SPE], depending upon the structure of the transaction, may have a higher investment rating than securities issued directly by the originator”).

[116]Bankruptcy can undermine the protection of collateral in several ways. For example, the automatic stay halts all foreclosure and other enforcement actions by secured creditors. 11 U.S.C. § 362. A debtor also is authorized to continue using collateral during a bankruptcy case. 11 U.S.C. § 363. If the debtor is unable to otherwise obtain bankruptcy financing, the court may authorize a superior lien on collateral to secure that financing so long as the existing secured creditor is given adequate protection—which is a somewhat nebulous and flexible concept. Compare 11 U.S.C. § 364(d)(1) (enabling a bankruptcy court to authorize a superior lien) with 11 U.S.C. § 361(3) (providing that adequate protection includes the “indubitable equivalent” of the existing collateral).

[117]Credit ratings provide a measure of comparing the creditworthiness of different debt securities based on the financial strength, prospects, and past history of the issuer of the securities. Investment-grade debt securities are those rated at ‘BBB-’ or higher by Standard and Poor’s or Moody’s. What Does Investment Grade Mean, Investopia (Jan. 21, 2021), https://www.investopedia.com/ ask/answers/what-does-investment-grade-mean/.

[118]See supra note 113 and accompanying text.

[119]Cf. supra notes 114-115 and accompanying text and infra notes 224-225 and accompanying text (explaining why an SPE’s debt securities may have higher credit ratings than its sponsor’s debt securities).

[120]See supra notes 12-14 and accompanying text.

[121]See, e.g., Steven Todd, The Effects of Securitization on Consumer Mortgage Costs, 29 Real Estate Econ. 29, 29 (2002) (finding that securitization appears to lower mortgage-loan origination fees, “resulting in substantial savings for consumers”).

[122]See supra notes 14-15 and accompanying text.

[123]See e.g., IMF, Securitization: The Road Ahead, IMF Staff Discussion Note (Jan. 2015).

[124]Devon R. Tucker, Not All Securitizations Are Equal: Risk Retention for Commercial Mortgage-Backed Securitization in an Era of Deregulation, 23 N.C. Banking Inst. 295, 306 (2019).

[125]Hayne E. Leland, Financial Synergies and the Optimal Scope of the Firm: Implications for Mergers, Spinoffs, and Structured Finance, 62 J. Fin. 765, 797 (2007).

[126]Id. at 798.

[127]See supra note 110 and accompanying text.

[128]Leland, supra note 125, at 799–80.

[129]Bjarne Steffen, The Importance of Project Finance for Renewable Energy Projects, 69 Energy Econ. 280, 287 (2018).

[130]See supra notes 49-51 and accompanying text.

[131]See Part III.A.2, infra.

[132]See supra note 9.

[133]See e.g. New York State Public Service Commission Mission Statement, available at https://www.budget.ny.gov/pubs/archive/fy1415archive/eBudget1415/agencyPresentations/appropData/PublicServiceDepartment.html (“The primary mission of the New York State Department of Public Service is to ensure safe, secure, and reliable access to electric, gas, steam, telecommunications, and water services for New York State’s residential and business consumers, at just and reasonable rates. The Department seeks to stimulate innovation, strategic infrastructure investment, consumer awareness, competitive markets where feasible, and the use of resources in an efficient and environmentally sound manner”).

[134]See, e.g., David Roberts, Power Utilities are Built for the 20th Century. That’s why they’re Flailing in the 21st (Sept. 9, 2015), available at https://www.vox.com/2015/9/9/9287719/utilities-monopoly (characterizing utility companies as monopoly providers). This Article does not purport to critique whether utility companies should be monopolies.

[135]Lack of substitutability is also a factor associated with the transmission of systemic risk. See IMF et al., Guidance to Assess the Systemic Importance of Financial Institutions, Markets and Instruments: Initial Considerations, 13 (Oct. 2009), https://www.imf.org/external/np/g20/pdf/100109.pdf. [https://perma.cc/TB2P-XJWN]; Basel Committee on Banking Supervision, Consultative Document: Global Systemically Important Banks: Assessment Methodology and the Additional Loss Absorbency Requirement 1 (July 2011) [https://perma.cc/VAA2-U5Y6].

[136]See, e.g., The Nation’s Most, and Least, Competitive Banking Markets, Am. Banker, May 9, 2011, http://www.americanbanker.com/issues/176_89/competitive-banking-markets-1037222-1.html (finding that the U.S. banking market as a whole is highly competitive).

[137]See Steven L. Schwarcz, Regulating Financial Change: A Functional Approach, 100 Minn. L. Rev. 1441, 1494 n. 221 (2016) (explaining that because U.K. banking is less competitive, the case for ring-fencing U.K. banks is more compelling than the case for ring-fencing U.S. banks).

[138]Ring-fencing additionally can help to reduce systemic risk by reducing panics. Ring-Fencing, supra note 10, at 95–96. Financial panics are a common trigger of systemic risk. Steven L. Schwarcz, Regulating Complexity in Financial Markets, 87 Wash. U. L. Rev. 211, 248 (2009). Cf. Dan Awrey, Complexity, Innovation and the Regulation of Modern Financial Markets, 2 Harv. Bus. L. Rev. 235, 267-277 (2012) (analyzing how financial innovation can increase complexity in financial markets and result in financial shocks).

[139]Regulating Complexity in Financial Markets, supra note 138.

[140]Id.

[141]Id.

[142]Recall that bankruptcy-remote structuring facilitates structured finance transactions. Cf. supra note 8 and accompanying text (bankruptcy remoteness is critical to structured finance transactions).

[143]Because the claims of tort creditors rank, from a priority-of-payment standpoint, equally and ratably with the claims of other unsecured creditors (see 11 U.S.C. § 726(a)(2)), the above analysis of whether bankruptcy-remote structuring directly harms third parties should apply equally to those creditors.

[144]This “structural subordination” occurs because, as a legally independent entity, the SPE’s assets are effectively out of reach of the sponsor’s and originators’ creditors in the event of bankruptcy. Baudistel, supra note 15, at 1314.

[145]See, e.g., Steven L. Schwarcz, The Easy Case for the Priority of Secured Claims in Bankruptcy, 47 Duke L. J. 425, 482–83 (1997) (explaining why new-money priority financing benefits non-contracting creditors, notwithstanding their becoming subordinated).

[146]Cf. Securitization Post-Enron, supra note 88, at 1563–1565 (showing that securitization transactions have a positive impact on bond pricing).

[147]See id. (finding that creditors of sponsors and originators do not usually attempt to contract for negative pledge or restrictive sale covenants that could prevent structured finance transactions). But cf. Heather Hughes, Property and the True-Sale Doctrine, 19 U. Pa. J. Bus. Law 870, 888 (2017) (describing criticisms of securitization, including the argument that it “involves extraction of a subsidy from unsecured creditors, artificially depressing interest rates by externalizing costs”). Assuming there is no direct harm, this Article need not address whether such harm should further constrain bankruptcy-remote structuring. Cf. In re S. E. Fin. Assocs., 212 B.R. 1003, 1005 (Bankr. M.D. Fla. 1997) (a bankruptcy waiver that adversely affects other creditors is unlikely to be enforced); Caroline Cecot & Robert W. Hahn, Incorporating Equity Concerns in Regulation 1 (George Mason Univ. L. & Econ. Rsch. Paper Series, Paper No. 22-19, 2022), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4093224 (arguing on equity grounds against directly harming groups).

[148]Although CBA traditionally starts with direct costs, it can include indirect costs. Cf. Cost-Benefit Analysis, in Investopedia, available at https://www.investopedia.com/terms/c/cost-benefitanalysis.asp (observing that CBA “might include” indirect costs); Tim Stobierski, How to do a Cost-Benefit Analysis and Why It’s Important, Harv. Bus. School Online (Sept. 5, 2019), available at https://online.hbs.edu/blog/post/cost-benefit-analysis (stating that “[w]hen tallying costs, you’ll likely begin with direct costs, …  But it’s also important to go beyond the obvious” to also include indirect costs).

[149]Moral hazard is the temptation of persons protected from the negative consequences of their risky actions to take more risks. Bouvier law dictionary 710 (2011 Compact Edition, Stephen Michael Sheppard, ed.); Mark V. Pauly, The Economics of Moral Hazard: Comment, 58 Am. Econ. Rev. 531, 535 (1968).

[150]Deborah L. Rhode & Paul D. Paton, Lawyers, Ethics, and Enron, 8 Stan. J.L. Bus. & Fin. 9, 13 (2002). Cf. Judith Schönsteiner, Irreparable Damage, Project Finance and Access to Remedies by Third Parties, in Global Project Finance, Human Rights and Sustainable Development 278–316 (Sheldon Leader & David Ong eds., 2011) (explaining that project-finance transactions can have environmental, labor, social, and political costs, but affected communities have limited legal recourse because they are not contractual parties); Ted Bridis, PNC Settles With SEC on Off-Balance-Sheet Deals, Washington Post (June 3, 2003), https://www.washingtonpost.com/archive/business/2003/06/03/pnc-settles-with-sec-on-off-balance-sheet-deals/f31333b4-0a48-453b-ad77-0896df42233f/ (reporting that PNC Bank settled with the SEC to pay $90 million in restitution and $25 million in penalties for its improper use of SPEs).

[151]See, e.g., Fin. Crisis Inquiry Comm’n, The Financial Crisis Inquiry Report: Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States xvii–xix (2011); Christine Hurt, The Duty to Manage Risk, 39 J. Corp. L. 253, 254–57 (2014) (arguing that most of the actions leading to the financial crisis represented excessive corporate risk-taking). Cf. Luc Laeven, Lev Ratnovski, & Hui Tong, Bank Size and Systemic Risk, IMF Staff Discussion Note (May 2014) available at https://www.imf.org/external/pubs/ft/sdn/2014/sdn1404.pdf. (describing how large banks are more likely to engage in riskier activities, which can subsequently lead to market failure).

[152]See supra note141.

[153]See, e.g., Vitaly M. Bord & João A. C. Santos, The Rise of the Originate-to-Distribute Model and the Role of Banks in Financial Intermediation, Fed. Res. Bank Econ. Pol’y Rev., July 2012, at 21, 21;  Antje Berndt & Anurag Gupta, Moral Hazard and Adverse Selection in the Originate-to-Distribute Model of Bank Credit, 56 J. Monetary Econ. 725, 741–42 (2009).

[154]Berndt & Gupta, supra note 153.

[155]Id. Cf. Yi-Hui Wang & Han Xia, Do Lenders Still Monitor When They Can Securitize Loans?, 27 R. Fin. Stud. 2354 (2014) (examining whether the OTD model discourages lender monitoring).

[156]Berndt & Gupta, supra note 155.

[157]Steven L. Schwarcz, Disclosure’s Failure in the Subprime Mortgage Crisis, 3 Utah L. Rev. 1109, 1113 (2008).

[158]The Financial Accounting Standards Board, which is responsible for establishing generally accepted accounting principles, permits off-balance-sheet financing as long as the originator surrenders control over transferred assets to the SPE. Summary of Statement No. 140, Fin. Acct. Standards Bd., available at https://fasb.org/page/PageContent?pageId=/reference-library/superseded-standards/summary-of-statement-no-140.html&bcpath=tff (last accessed July 10, 2022). See also supra notes 153–154 and its accompanying text.  

[159]Cf. Shalanda H. Baker, Unmasking Project Finance: Risk Mitigation, Risk Inducement, and an Invitation to Development Disaster?, 6 Tex. J. Oil Gas & Energy L. 273, 311–12 (2011) (observing that the use of SPEs “allow[s] the sponsor to minimize exposure to risk, including environmental and human rights risks associated with [a] project, because the sponsor does not participate directly in the project”).

[160]See, e.g., Linda Allen & Anthony Saunders, Risk Management in Banking, in The Oxford Handbook of Banking 160, 162 (Allen N. Berger et al. eds., 2015) (explaining that “HSBC absorbed $45 billion in assets” held in bankruptcy-remote vehicles “in order to protect its reputation”); Anatoli Segura, Why Did Sponsor Banks Rescue Their SIVs? A Signaling Model of Rescues 2 (June 16, 2014) (unpublished manuscript), available at http://ssrn.com/abstract=2552475 (observing that “most sponsor banks stepped in and rescued” the asset-backed-commercial-paper conduits they sponsored “even though they were not contractually obliged to do so” and that “regulators attributed these and similar voluntary support decisions to the reputational concerns of the sponsors”).

[161]Cf. Awrey, supra note 138 (discussing financial shocks and their consequences).

[162]See generally Daniel M. Covitz, Nellie Liang, & Gustavo A. Suarez, The Evolution of a Financial Crisis: Panic in the Asset-Backed Commercial Paper Market, Fed. Rsrv. Bd. (Aug. 18, 2009), https://www.federalreserve.gov/pubs/feds/2009/200936/200936pap.pdf. Financial panics are a common trigger of systemic risk. See supra note 137.

[163]See generally Gary Gorton & Andrew Metrick, The Flight from Maturity, 47 J. Fin. Intermediation 1 (explaining how maturity-transformation-related defaults were a primary cause of the financial crisis).

[164]The rationale for short-term funding of long-term projects includes that the interest rate on short-term debt securities is lower than that on long-term loans, making the activity profitable. Steven D. Simpson, The Banking System: Commercial Banking – Economic Concepts in Banking, Investopedia, available at https://www.investopedia.com.cach3.com/university/banking-system/banking-system2.asp.html [https://perma.cc/WSS6-UNNX].

[165]Jeanne Gobat et al., The Net Stable Funding Ratio: Impact and Issues for Consideration 3 (Int’l. Monetary Fund, Working Paper No. 14/106, 2014), available at https://www.imf.org/external/pubs/ft/wp/2014/wp14106.pdf [https://perma.cc/9P89-VMZP].

[166]Sandra Krieger, Shadow Maturity Transformation and Systematic Risk, Fed. Reserve Bank New York (Mar. 8, 2011) (depicting the volume of maturity transformation of assets including securities from 1985 to 2010), available at https://www.newyorkfed.org/medialibrary/ media/newsevents/speeches/2011/slides_030811.pdf.

[167]Id. at 4–6 & 10–12. Cf. Gary B. Gorton, Slapped by the Invisible Hand: The Panic of 2007 (2010) (arguing that defaults resulting from maturity transformation led to the financial crisis).

[168]See, e.g., Viral V. Acharya, Philipp Schnabl, & Gustavo Suarez, Securitization without Risk Transfer, 107 J. Fin. Econ. 515 (2013).

[169]See, e.g., Tracey Sandilands, Effect of Recession on Small Businesses, Chron, https://smallbusiness.chron.com/effect-recession-small-businesses-61164.html (last accessed June 15, 2022) (reporting that the failure of just a single category of financial asset can ignite a chain of events that drives the entire economy into recession).

[170]See supra notes 49-50 and accompanying text.

[171]Cf. supra notes 147-148 and accompanying text (discussing how misalignment of the interests of the sponsor and its SPE can create moral hazard and encourage higher risk activities).

[172]Cf. supra notes 152-154 and accompanying text (discussing the OTD model).

[173]Cf. supra notes 62-63 and accompanying text (observing that utility ring-fencing involves, among other things, ensuring that the utility can operate on a standalone basis even if its affiliates fail and protecting the utility from being taken advantage of by its affiliates).

[174]See supra note 24 and accompanying text. In the author’s experience, the transaction costs associated with structuring a bankruptcy-remote SPE is in the order of magnitude of $100-200,000 for securitization transactions and several times higher for project finance transactions. These costs are higher for project finance because the SPE engages in a limited business (e.g., constructing and operating a powerplant) and may also need to obtain government licenses and operating approvals. In contrast, the costs of ring-fencing an ongoing banking conglomerate can be astronomical. For example, Hong Kong Shanghai Bank may have paid as much as £1.5 billion to ring-fence its U.K. affiliated bank. Rory Milbank, Ring-fencing: The Current State of Play, DRS (June 14, 2018), available at https://drs-als.com/ring-fencing-the-current-state-of-play/. U.K. banks have claimed that ring-fencing their operations would impose large costs without conferring clear benefit to their customers. Sudip Kar-Gupta, Banks Say Ring-Fencing Plans Flawed and Costly, Reuters (July 13, 2011, 8:09 AM), available at https://www.reuters.com/article/uk-britain-banks/banks-say-ring-fencing-plans-flawed-and-costly-idUKTRE76C2HU20110713. Cf. Lawrence G. Baxter, Betting Big: Value, Caution and Accountability in an Era of Large Banks and Complex Finance, 31 Rev. Banking & Fin. L. 765, 786-12 (2012) (exploring efficiencies of scope and scale in big banks and determining that they remain open and very difficult to measure).

[175]The views in the above paragraph are based on the author’s experience as both expert advisor and expert witness on the ring-fencing of Baltimore Gas & Electric in connection with its acquisition by Exelon Corp. and the ring-fencing of Oncor Electric in connection with its acquisition by a consortium led by the Hunt Brothers.

[176]Cf. Peterson & Brereton, supra note 56, at 10 (explaining that ring-fencing a utility could result in higher costs to ratepayers).

[177]See supra notes 109-125 and accompanying text.

[178]John C. Coates IV, Cost-Benefit Analysis of Financial Regulation: Case Studies and Implications, 124 Yale L.J. 882, 976–77 (2015).

[179]See supra notes 148-168 and accompanying text.

[180]See generally John H. Cochrane, Challenges for Cost-Benefit Analysis of Financial Regulation, 43 J. Legal Stud. 63 (2014) (highlighting challenges of estimating costs and benefits of a regulation in the finance market)

[181]Eleazar David Melendez, Financial Crisis Cost Tops $22 Trillion, GAO Says, Huffington Post (Feb. 14, 2013, 7:49 PM ET), available at https://www.huffingtonpost.com/2013/02/14/ financial-crisis-cost-gao_n_2687553.html [https://perma.cc/GE7K-RXXF]. Cf. The Cost of the Crisis, Better Markets (July 2015), https://bettermarkets.org/wp-content/uploads/2021/07/Better-Markets-Cost-of-the-Crisis_1.pdf (estimating the cost of the financial crisis as around $20 trillion (when measured by GDP loss), not including other labor or foreclosure statistics such as two million fewer jobs in mid- and high-wage industries compared to pre-crisis estimates). Some argue that these estimates might be slightly high because the losses on housing and asset values are not permanent. See supra note 179, at 570.

[182]Frederick Matthew Norchi, Deference Debate and the Role of Cost-Benefit Analysis in Financial Regulation: MetLife v. Financial Stability Oversight Council, 21 N.C. Banking Inst. 253, 272–73 (2017).

[183]Id. See also Office of the Comptroller of the Currency, Analysis of 12 CFR Part 44, U.S. Dep’t Treasury (Mar. 2014), http://www.occ.gov/topics/laws-regulations/legislation-of-interest/volcker-analysis.pdf.

[184]See supra notes 126-130 and accompanying text.

[185]See supra notes 169-171 and accompanying text.

[186]See supra notes 131-140 and accompanying text.

[187]See supra notes 172-175 and accompanying text.

[188]See supra note 132 and accompanying text.

[189]Cf. supra note 147 and accompanying text (observing that bankruptcy-remote structuring can indirectly create externalities by increasing financial systemic risk).

[190]See supra notes 140-167 and accompanying text.

[191]See supra notes 148-150 and accompanying text.

[192]See supra notes 49-50 & 169-170 and accompanying text (noting that this can mitigate moral hazard and reduce the motivation to engage in higher risk activities).

[193]See, e.g., Structured Finance, supra note 34 (stating that, for securitization, “The most significant factor in the true sale determination appears to be the nature and extent of recourse that the transferee of the receivables has against the transferor. As the degree of recourse increases, the likelihood that a court will find a true sale decreases.”). Cf. supra notes 30 & 46-48 and accompanying text (discussing a bankruptcy-remote true sale).

[194]Interview by Frontline with Lanny Breuer, Head of Criminal Div., U.S. Dep’t of Justice (Nov. 30, 2012) (emphasis added), available at http://www.pbs.org/wgbh/pages/frontline/business-economy-financial-crisis/untouchables/lanny-breuer-financial-fraud-has-not-gone-unpunished/. Breuer suggests, as does this Article, that civil liability is the more appropriate remedy: “[I]f you can establish that you … were open about your greed, that you were open about [and disclosed] the fact that your representations may not be precise [and the other side accepts that or doesn’t care], do I think we … . should sue you for every penny you’re worth? I think we should sue you for every penny you’re worth.” Id. Even post-financial crisis, when many raised concerns over excessive risk-taking, prosecutions of individuals were rare. See, e.g., Colin Maher, Note, Crisis Not Averted: Lack of Criminal Prosecutions Leave Limited Consequences for Those Responsible for the Financial Crisis, 39 New Eng. J. on Crim. & Civ. Confinement 459, 462 (2013).

[195]Cf. Steven L. Schwarcz, Excessive Corporate Risk-Taking and the Decline of Personal Blame, 65 Emory L.J. 533, 562 (2015) (discussing the difficulty of imposing civil penalties on individual managers).

[196]Gabriel Jiménez, Jose A. Lopez & Jesús Saurina, How Does Competition Impact Bank Risk-Taking? 2 (Fed. Reserve Bank of S.F. Working Paper Series, Paper No. 2007-23, 2007), available at https://www.frbsf.org/economic-research/publications/working-papers/2007/wp07-23bk.pdf (arguing that increasing competition among banks increases the need to engage in risk-taking: “Competition [in banking] should … encourage [banks] to pursue riskier policies in an attempt to maintain [their] former profits”).

[197]See supra notes 152-155 and accompanying text.

[198]See, e.g., Dodd-Frank Act, 15 U.S.C. §78o-11(c)(1)(B) (2012); Proposal for a Regulation of the European Parliament and of the Council, at 14, 31–32, COM (2015) 472 final (Sept. 30, 2015) (proposing a similar risk-retention requirement for securitizations in the European Union). The media often refers to risk-retention requirements as maintaining “skin in the game.”

[199]Ryan Bubb & Prasad Krishnamurthy, Regulating Against Bubbles: How Mortgage Regulation Can Keep Main Street and Wall Street Safe—From Themselves, 163 U. Pa. L. Rev. 1539, 1589–93 (2015); Matthew C. Turk, Regulation by Rulemaking or by Settlement?, 37 Rev. Banking & Fin. L. 861, 882 (2018).

[200]Bubb & Krishnamurthy, supra note 199, at 1590–91; Turk, supra note 199, at 882. In fact, sponsors often invested in the most junior “equity” tranches of the deals they were arranging, believing that putting their own money at stake in a first-loss position would signal the quality of the deals and also would generate additional value. Cf. Michael S. Gibson, Understanding the Risk of Synthetic CDOs 17 (Fed. Reserve, Fin. & Econ. Discussion Series, Working Paper No. 36, 2004), available at https://www.federalreserve.gov/pubs/feds/2004/200436/200436pap.pdf [https://perma.cc/JG95-D6CD] (explaining that CDO sponsors often retain equity tranches for those reasons and also to limit informational asymmetry).

[201]Regulating Complexity in Financial Markets, supra note 137, at 241–42. Cf. Andrew G. Haldane & Vasileios Madouros, Speech at the Federal Reserve Bank of Kansas City’s 366th Economic Policy Symposium: The Dog and the Frisbee, 149 (Aug. 31, 2012) (observing that “[c]omplexity has externality type properties, making risk more difficult to monitor and manage”).

[202]See generally Simple, Transparent, and Standardised (STS) Securitisation Notifications, ESMA://www.esma.europa.eu/policy-activities/securitisation/simple-transparent-and-standardised-sts-securitisation (last accessed Feb. 24, 2023); Regulation (EU) 2017/2401, as amended by Regulation (EU) 2021/557 (SECR). See also Christian Noyer, The Financing of the Economy in the Post-Crisis Period: Challenges and Risks for Financial Stability, in Financial Stability Rev. 7, 9 (Banque de Fr. ed., 19th ed. 2015) (explaining how the European Union is in the process of implementing initiatives to revive the securitization market).

[203]The term ABS CDO refers to a securitization of collateralized debt obligations.

[204]What is Securitization?, supra note 28, at 1285.

[205]Id.

[206]Id. at 1285–86 (using Enron as an example).

[207]Register for STS Notifications, ESMA available at https://registers.esma.europa.eu/publication/ searchRegister?core=esma_registers_stsre (last accessed June 16, 2022) (publishing a list of all securitizations that meet STS requirements).

[208]The STS framework includes requiring (i) a true sale or similar transfer of the underlying financial assets; (ii) those financial assets must meet simplicity requirements, including homogeneity, creditworthiness (e.g., not in default, not from insolvent obligors or obligors with adverse credit history), and not constituting already securitized financial assets; (iii) interest-rate and exchange-rate risks must be hedged; (iv) other than to effect such hedging, the financial assets cannot be supported by derivatives, as would occur in a “synthetic” securitization; (v) transaction documents must clearly specify obligations, duties, and responsibilities of the servicer and back-up servicer to ensure efficient and continuing servicing of the financial assets and must also include clear provisions facilitating the timely resolution of conflicts among different classes of investors; (vi) and investors must receive a cash-flow model of anticipated collections on the financial assets, supported by information on historical default, delinquency, and loss performance for substantially similar financial assets to those being securitized. See Commission First Status Report on Capital Markets Union, at 2–3, 21, SWD (2016) 147 final (Apr. 25, 2016), https://perma.cc/MY8F-J84Z.

[209]See Financial Accounting Standards Board, Facts About FASB, available at http://www.fasb.org/facts/facts_about_fasb.pdf (stating that “FASB is part of a structure that is independent of all other business and professional organizations”).

[210]Id. at 1. Cf. Steven L. Schwarcz, Private Ordering, 97 Nw. U. L. Rev. 319, 320 & 346-47 (2002) (discussing the SEC’s delegation of control over accounting disclosure to FASB). 

[211]Public accounting standards facilitate compliance with securities law by reducing the information asymmetry between issuers of and investors in securities.  See, e.g., Joel Seligman, The Transformation of Wall Street 70 (1995) (arguing that the primary function of the federal securities laws is remediation of information asymmetries); Marc I. Steinberg, Understanding Securities Law 1 (1996) (“Undoubtedly, the central focus of the federal securities laws is that of disclosure, thereby providing shareholders and the marketplace with sufficient information to make relevant decisions.”).

[212]Report and Recommendations Pursuant to Section 401(c) of the Sarbanes-Oxley Act of 2002 On Arrangements with Off-Balance Sheet Implications, Special Purpose Entities, and Transparency of Filings by Issuers, United States Securities and Exchange Commission (June 15, 2005) available at https://www.sec.gov/news/studies/soxoffbalancerpt.pdf.

[213]Id. at 42.

[214]Id. at 3.

[215]Id. at 3. The Staff Report suggests, for example, that technical compliance with financial reporting requirements would be unsatisfactory where investors are nonetheless misled or have insufficient information to understand the issuer’s activities.

[216]See supra notes 201-207 and accompanying text.

[217]See supra note 156 and accompanying text.

[218]Cf. supra notes 206-207 and accompanying text (making that suggestion).

[219]The Basel III liquidity requirements impose a “Net Stable Funding Ratio” on SIFIs, to help reduce the risk that maturity transformation will result in defaults that could trigger a systemic economic collapse. See Gobat, supra note 164, at 3. Cf. supra notes 159-161 and accompanying text (defining SIFIs).

[220]Cf. Jeremy C. Kress, Patricia A. McCoy, & Daniel Schwarcz, Regulating Entities and Activities: Complementary Approaches to Nonbank Systemic Risk, 92 S. Cal. L. Rev. 1455, 1466–67 (2019) (discussing the rise of structured finance and other forms of shadow banking, which increases maturity-transformation activity).

[221]See, e.g., John Geanakoplos, Leverage Caused the 2007-2009 Crisis, Systemic Risk in the Financial Sector: Ten Years After the Global Financial Crisis available at https://ccl.yale.edu/sites/default/files/files/Geanakoplos_John_rev_Leverage_Caused_paper%281%29.pdf. In the financial crisis, the relevant underlying financial assets were mortgage loans.

[222]Id.

[223]Cf. supra note 218 and accompanying text (discussing Basel III’s SIFI liquidity requirements).

[224]Thomas K. Hahn, Commercial Paper, 79 Fed. Res. Bank Rich. Econ. Q. 45, 45, 47 (1993). Cf. Fitch Inv. Serv., Corporate Asset Funding Co., Inc., Structured Finance, June 15, 1992, at 81, 83 (describing Corporate Asset Funding Company (“CAFCO”), a $7 billion asset-backed commercial paper SPE).

[225]Fitch Inv. Serv., id., at 83.

[226]See, e.g., Eureka Securitization Incorporated, Moody’s Investors Serv., Dec. 3, 2004, at 6–7 (stating that Citibank, the administrative agent of a $10 billion ABCP conduit, performs this type of monitoring to help avoid maturity gaps).

[227]See, e.g., Fitch Inv. Serv., supra note 223, at 83.

[228]Id.

[229]In the author’s experience, liquidity providers normally charge a fee between 5 and 15 basis point (a basis point being 1/100 of a percentage point).

[230]See supra notes 167-168 and accompanying text.

[231]See supra notes 220-221 and accompanying text.

[232]See id.

[233]For example, each SPE could be individually required to hold a diversified mix of assets.

[234]For example, if SPE-A holds one category of assets, SPE-B could be required to hold a different category of assets, creating asset diversification as among SPEs.

[235]Regulating Complexity in Financial Markets, supra note 137, at 223 (discussing the unrecognized correlation among different types of mortgage loans).

[236]Id. at 223-24. For example, “during the late 1970s and early 1980s, investors failed to recognize an underlying correlation between mobile-home loans and the price of oil. An oil boom in Oklahoma drew an influx of oil workers, creating the nation’s fastest growing market for mobile-home loans. When oil prices crashed, drilling in Oklahoma ceased, resulting in massive unemployment and causing widespread defaults on the mobile-home loans.” Id.

[237]Cf. supra notes 198-199 and accompanying text (describing those risk-retention requirements).

[238]2 C.F.R. § 1026 (2015).

[239]See supra notes 198-199 and accompanying text.

[240]The only such restrictions of which the author is aware, besides the aforesaid QRM designation, are Regulations G, U, T, and X promulgated by the Federal Reserve after the Great Depression. Regulation U, for example, requires that loans extended by banks to enable borrowers to purchase publicly traded stock either must be secured by collateral worth at least twice as much as the loan amount—effectively 100% overcollateralization—or else the lender must independently verify that the borrower is able to repay the loan. See 12 C.F.R. § 221 (2015). The effectiveness of Regulations G, U, T, and X is still unresolved. Compare Gikas A. Hardouvelis, Margin Requirements, Volatility, and the Transitory Component of Stock Prices, 80 Amer. Econ. Rev. 736, 745-54 (1990) (finding a statistically significant negative relationship between margin levels and stock market volatility and excess volatility in the post-Depression period); Peter Fortune, Margin Lending and Stock Market Volatility, 2011(4) New England Econ. Rev. 3 (2001) (finding that “the practical value of an active margin loan policy is limited”).

[241]Cf. supra note 238 and accompanying text (observing that avoiding having to comply with the risk-retention requirements may provide insufficient motivation).

[242]Cass Sunstein, Laws of Fear: Beyond the Precautionary Principle 150 (2005).

[243]John C. Coates IV, Towards Better Cost-Benefit Analysis: An Essay on Regulatory Management, 78 L. & Contemp. Probs. 1, 8–9 (2015).

[244]Ten percent of the $22 trillion estimated cost of the financial crisis (see supra note 180) is $2.2 trillion.

[245]Hillary J. Allen, A New Philosophy for Financial Stability Regulation, 45 Loy. U. Chi. L.J. 173, 195 (2013).

[246]See id. at 196 n.90 (explaining that “[r]egulators would be stymied by the strongest form of the precautionary principle” because the “impossibly high burden of proof” it imposes would block new activities and their benefits). Cf. Cass R. Sunstein, Beyond the Precautionary Principle, 151 U. Pa. L. Rev. 1003 (2003) (arguing that the strongest version of the precautionary principle provides little practical guidance because even the choice to regulate an activity involves risk).

[247]Sunstein, supra note 246 at 1014.

[248]Cass R. Sunstein, The Catastrophic Harm Precautionary Principle, 6 Issues Legal Scholarship 6 (2007) (arguing for application of a “stronger version of the Catastrophic Harm Precautionary Principle” where there are “risks with large secondary losses”). Professor Sunstein analogizes a margin of safety as a “premium” for regulatory insurance. Id. at 1.

[249]See, e.g., Cass. R Sunstein, Irreversible and Catastrophic, 91 Cornell L. Rev. 841, 845 (2006) (explaining that the Clean Air Act’s requirement that the Environmental Protection Agency include a margin of safety in setting air-quality standards can be understood as an effort to protect against irreversible, catastrophic harm).

[250]Steven L. Schwarcz, Systemic Risk, 97 Geo. L.J. 193, 206 (2008).

[251]A somewhat similar test would be to require that the public benefits considerably outweigh the social costs. Cf. Excessive Corporate Risk-Taking and the Decline of Personal Blame, supra note 196, at 566 (proposing use of a “considerably outweigh” requirement in corporate risk-taking analysis because that requirement “does not merely shift to the firm’s managers the burden to prove that the risk-taking activity should be permitted; it also increases the burden by adding a safety margin”). 

[252]Cf. supra note 182 and accompanying text (using that approach in the cost-benefit analysis of the Volcker Rule).

[253]The Article’s analysis also indirectly informs the foundational questions of what should be the right of parties to contract around bankruptcy, and what should be the limits of freedom of contract. Cf. Rethinking Freedom of Contract, supra note 72 (also examining those questions and explaining the broader context in which they can arise). Parties should have the right to contract around bankruptcy if that contracting neither thwarts bankruptcy law’s policy nor nullifies it purposes. A cost-benefit analysis of contracting around bankruptcy should balance its social costs and public benefits. Even if it is difficult meaningfully to quantify those costs and benefits, it still may be useful to try to categorize them without concluding how they balance. Furthermore, if the costs could be catastrophic, such as contributing to a systemic financial collapse, any balancing should require some precautionary margin of safety, such as showing that the public benefits clearly outweigh the social costs. Finally, any analysis of the right to contract around bankruptcy should include an examination of how to accomplish that contracting to minimize its externalities. Even if that does not enable a clear cost-benefit balancing, it could help to reduce costs if such contracting inevitably occurs.