Deposit Insurance and Bank Intermediation in the Long Run

Robert Cull, Lemma Senbet and Marco Sorge
Additional contact information
Lemma Senbet: University of Maryland - Robert H. Smith School of Business
Marco Sorge: World Bank Group - International Finance Corporation

No 156, BIS Working Papers from Bank for International Settlements

Abstract: This paper provides empirical evidence on the impact of deposit insurance on the growth of bank intermediation in the long run. We use a unique dataset capturing a variety of deposit insurance features across countries, such as coverage, premium structure, etc. and synthesize available information by means of principal component indices. This paper specifically addresses sample selection and endogeneity concerns by estimating a generalized Tobit model both via maximum likelihood and the Heckman 2-step method. The empirical construct is guided by recent theories of banking regulation that employ an agency framework. The basic moral hazard problem is the incentive for depository institutions to engage in excessively high-risk activities, relative to socially optimal outcomes, in order to increase the option value of their deposit insurance guarantee. The overall empirical evidence is consistent with the likelihood that generous government-funded deposit insurance might have a negative impact on the long-run growth and stability of bank intermediation, except in countries where the rule of law is well established and bank supervisors are granted sufficient discretion and independence from legal reprisals. Insurance premium requirements on member banks, even when risk-adjusted, are instead found to have little effect in restraining banks' risk-taking behavior.

Keywords: Deposit Insurance; Moral Hazard; Bank Regulation and Supervision; Financial Development (search for similar items in EconPapers)
JEL-codes: F3 G2 O1 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2004-07
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

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