Li Shuguang

When China drew up its first bankruptcy law on a trial basis in 1986, which applied to public enterprises only, bankruptcy was still a much-feared subject. Although the public has gradually come to accept the concept of bankruptcy, the number of private enterprises entering the market mushroomed but there were no real legal restraints on them. A direct consequence of this was that creditors had no legal recourse to their claims.

In 1993, the government set about amending the law. Li was commissioned to participate in the revision work.

The key change was to subject all corporations to bankruptcy rules and regulations. More important, the government, which used to play a leading role in handling bankruptcy affairs, now takes a back seat.

"Whatever goes wrong, the market is responsible for settling its own affairs, while the government will stay in the background," Li said. "State-owned enterprises (SOEs) are no more in a privileged position, and all corporations play by the same rules of 'survival of the fittest'. The aim is to create a fair and open environment for investment and trading."

Another significant amendment is the inclusion of financial institutions under the purview of the bankruptcy law. However, owing to the complex nature of the financial services sector, regulatory and supervisory authorities are allowed to intervene in the closing down or restructuring of banks, and securities and insurance companies. "This is almost the only case where government departments can have a hand in bankruptcy matters," Li said.

When an SOE declares bankruptcy, the revised law will give priority to creditors' claims. "Actually, before this consensus was reached, there was a deep chasm in opinion, and this provision was the most controversial," Li noted.

"Some lawmakers insisted on first protecting the interests of laid-off workers," he continued. "Nevertheless, how to re-employ retrenched workers is a by-product of an economy in transition (moving from a planned to market economy) that demands the attention of society as a whole. However, ensuring the rights of creditors doesn't mean that those of laid-off workers would be ignored. In my view, what is more pressing is to establish a bankruptcy protection fund and perfect the social security system, so that impoverished workers can get timely help."

The US and the EU are paying close attention to China's bankruptcy revisions. From the time that the first foreign investors were allowed into China, innumerable debt/credit relations have been established. Without legal protection, investors in many cases can only seek redress directly from influential government officials.

In addition, China, an increasingly important international trading partner, has been involved in trade disputes in recent years with many countries. The usual complaint is that the low prices of Chinese products give it an unfair competitive edge over others. Chinese companies have also been criticized for paying unreasonably low salaries to employees, one of the methods business owners use to cut production costs. Further, several loss-making SOEs, buoyed by government subsidies, choose to continue to drag out a feeble existence rather than file for bankruptcy.

"The approval of the revised bankruptcy law will help to improve the domestic investment environment, and to a great extent, free our trading partners from doubts and misgivings about China's market," Li said.

He also proposed the establishment of a state bankruptcy administration to ensure that the law is properly implemented. "To avoid buck-passing, it's necessary to establish a special organ that will be in charge of bankruptcy management, data collection and publication, transnational bankruptcy cases, and follow-up legislation," he said.

What concerns Li is that the current law does not cover individual bankruptcy. "I hope an 'individual' bankruptcy law will be enacted within the next decade," he said.

What remains to be answered is whether the Corporate Bankruptcy Law would encourage more companies to declare bankruptcy as a way of avoiding debt settlement? And will this lead to a credit crisis?

(Southern Weekend, translated by Shao Da for china.org.cn, September 11, 2006)