A Transaction Cost Rationale for the Insolvent Trading Provisions

Abstract

This article responds to economic and contractarian critiques of the insolvent trading provisions of the Australian Corporations Law. The prime criticisms are first, that the remedy overcompensates creditors for the risk they assume, and, second, the provisions are mandatory, so destroying contractual freedom. After establishing that these criticisms are not soundly based in doctrine or theory, the author shows that the insolvent trading provisions represent an efficient default term where costs of producing and verifying information, and transacting generally are positive. It is also argued that the Corporations Law does not demonstrate a policy that is hostile to opting out of these provisions, and the considerations relevant to this issue are explored. The article does, however, criticise as inefficient the provisions that require the compensation obtained from the director to be shared amongst all unsecured creditors.

JEL Classification: G38, K22