A Study On The Application Of The Enterprise Bankruptcy Law For The Close-out Mechanism Of OTC Financial Derivative Transactions In China

Close-out netting is the primary means of mitigating credit risks associated with over-the-counter derivatives,which refers to a process involving termination of obligations under a contract with a defaulting party and subsequent combining of positive and negative replacement values into a single net payable or receivable.It has reduced over-the-counter derivatives credit exposure by over 85 percent and enables derivatives participants to protect against adverse market changes following default of a counterparty.During the past years,the Chinese derivative market developed rapidly.At the same time,the Chinese judicial authorities and financial supervisors have been keeping to support the development of this market with the new rules,policies and actions.The National Association of Financial Market Institutional Investors(NAFMII),an organization supervised and instructed by the People's Bank of China,published the 2009 version of the China Inter-bank Market Financial Derivatives Transactions Master Agreement in 2009,which adopted the “single agreement” concept and close-out netting mechanism for onshore derivatives transactions.However,there have always been uncertainties surrounding the enforceability of close-out netting against counterparties in China under article 18,article 31 and article 32 of the Enterprise Bankruptcy Lawof the People's Republic of China.In the view of this article,the close-out netting mechanism is enforceable before the commencement of the bankruptcy proceeding,but not the case afterthe commencement of the bankruptcy proceeding.In the latter situation,further interpretations of the Enterprise Bankruptcy Law are necessary for the mechanism to be enforceable.The concept of the Executory Contract should be constrictively interpreted and derivative contract should be treated differently from other kind of contract when it comes to the question of applying the administrator's moratorium power under Enterprise Bankruptcy Law due to the unique characteristic of this specific kind of contract.Based on the above consideration,when it comes to derivative contract,the administrator's moratorium power should be excluded from applying.