Prof. Jayanth R. Varma's Financial Markets Blog

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Prof. Jayanth R. Varma's Financial Markets Blog, A Blog on Financial Markets and Their Regulation

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Fri, 04 Nov 2005

Negligence, Misfeasance and Private Sector Watchdogs

The collapse earlier this week of the misfeasance suit by the liquidators of BCCI against the Bank of England highlights the importance of private sector watchdogs. The key difference is that many private sector watchdogs can be sued for negligence, but regulators can usually be sued only for misfeasance.

In the case of Bank of Credit and Commerce International (BCCI), most observers believe that the Bank of England was negligent in the discharge of its regulatory duties. But the sovereign cannot be sued for mere negligence. The liquidators of BCCI therefore had to invoke the charge of misfeasance. Misfeasance consists essentially of an intentional misuse of public power. It required the liquidator to prove not merely that the actions of the Bank of England were improper but that they were malicious or dishonest (not necessarily in a financial sense). In most cases of regulatory failure, malice or dishonesty is very unlikely to exist. It is difficult to imagine why the officials of the Bank of England would act with malice against the depositors of BCCI. It is much easier to see why they might be negligent.

Another recent case of a failure of a misfeasance suit again in the United Kingdom was the suit by the shareholders of RailTrack against its renationalization. Here there was much greater plausibility to the claim that the sovereign acted with something approaching malice. But the claim could not be proved in court and the judge dismissed the claim completely.

If misfeasance is either unlikely or difficult to prove, then the victims of regulatory negligence are left with no recourse at all. This makes private sector watchdogs attractive. When they fail, it is possible to sue them for negligence and to recover monetary damages. It is noteworthy that in the Worldcom and other scandals in the United States, the major part of the financial recovery by investors has come from private sector gatekeepers and watchdogs.

Posted at 14:33 on Fri, 04 Nov 2005     View/Post Comments (2)     permanent link