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Economic Quarterly

First Quarter 2012

Orderly Liquidation Authority as an Alternative to Bankruptcy

Sabrina R. Pellerin and John R. Walter

In response to the financial crisis of 2007, Congress created the Orderly Liquidation Authority (OLA) as part of its overarching financial regulatory reform bill, the Dodd-Frank Act. The OLA's provisions are aimed at simultaneously addressing two conflicting goals---mitigating systemic risk, which is thought to emerge when large financial firms enter the bankruptcy process, while also minimizing moral hazard, which arises when investors believe that firms are likely to be granted a government bailout to save them from bankruptcy and prevent systemic problems. In this article, we review the features of both bankruptcy and the OLA and identify how certain provisions of the OLA aim to address apparent weaknesses inherent in the core features of bankruptcy when resolving systemically important financial institutions, and specifically, how these provisions intend to balance the conflicting goals of limiting systemic risk and the almost inevitable increase in moral hazard.

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