Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

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.


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