The Optimal Level of Deposit Insurance Coverage

Abstract

Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. This paper develops a global game model that allows for a rigorous analysis of partial deposit insurance and provides the first comparative statics of the optimal level of deposit coverage. The optimal amount of coverage increases with lower bank liquidity requirements, with a higher precision of depositors' information, and with a lower relevance of large, uninsured creditors, and it should not be increased in anticipation of an economic downturn. Optimal insurance is higher if there is contagion and lower if banks can assume excessive risk, but interestingly, a high level of coverage may not be optimal even in the absence of moral hazard on the part of banks. The model supports the inauguration of coinsurance provisions and is applied to compare various policies addressing financial fragility. While an optimal lending of last resort policy can outperform deposit insurance, anticipated bailouts are inferior in terms of welfare. Capital requirements are not a substitute for insurance, but mitigate excessive risk taking. Terms of use: Documents in EconStor may JEL Classifications: G21, G28, C72

Capital Adequacy, Deposit Insurance, and the Effect of Their Interaction on Bank Risk

“…In their model, the combination of these two regulatory policies can generate the first-best allocation. Manz (2009) concludes that capital adequacy regulation is not a substitute for deposit insurance. An insight from Manz's model is that blanket deposit insurance can be detrimental, and an optimal level of deposit insurance and its interaction with capital regulation can be beneficial in risk reduction.…”

“…To the extent that they are substitutes, when one mechanism exists, the other is less likely to be adopted. According to Manz (2009), however, these two mechanisms can be complements and therefore they can co-exist and be beneficial.…”

Limited deposit insurance coverage and bank competition

“…One exception is Manz (2009), who characterizes the optimal level of deposit insurance coverage as well as its determinants. However, Manz (2009) analyzes neither the effect of limited deposit insurance coverage on the demand for multiple deposit accounts, nor deposit market competition.…”

“…One exception is Manz (2009), who characterizes the optimal level of deposit insurance coverage as well as its determinants. However, Manz (2009) analyzes neither the effect of limited deposit insurance coverage on the demand for multiple deposit accounts, nor deposit market competition. More recent work by Egan, Hortaçsu, and Matvos (2014) examines the role of competition for insured and uninsured deposits for banks' financial stability.…”

Partial deposit insurance and moral hazard in banking

“…Under the framework of global game, Manz (2009) finds that a higher level of insurance mitigates market failure but increases the chance of inefficiency. While the contribution of Manz's paper is to study the comparative statics of the optimal level of coverage, we make an effort to explain why countries have different coverage among the deposit insurance provided by using a simple model with heterogonous depositor, banks, and an insurer.…”