Abstract

This paper demonstrates a well-designed deposit guarantee system can strengthen incentives for owners, managers, depositors and other creditors, borrowers, regulators and supervisors, and politicians. Borrowers should be aware that they will have to repay their loans if their bank fails and will be encouraged to keep their loans current where offsetting is limited to past-due loans. The performance of insurers, regulators, and supervisors as agents will improve where they know that they can take justifiable actions without political interference and will be held accountable for their actions to their principals. Despite the improvements, and possibly partly because there are issues in deposit insurance design that remain to be resolved, financial crises have been prevalent during the 1990s. This situation has forced a number of countries to offer a blanket guarantee to restore confidence and to allow the continued functioning of the financial system while the authorities take time to design a plan for the resolution of the crisis.

Contents

  • Preface

  • I Overview

  • II Good Practices for Deposit Insurance

    • Objectives

    • Infrastructure

    • Avoiding Moral Hazard

    • Reducing Adverse Selection

    • Minimizing Agency Problems

    • Promoting Credibility

    • Ensuring Financial Integrity

    • A Summary of IMF Advice

  • III A Survey of Deposit Insurance Practices

    • Year of Origin of Limited Deposit Insurance Systems

    • The Deposit Insurance Agency: Role and Responsibilities

    • Membership

    • Funding the Deposit Insurance System

    • Deposit Coverage

    • Governance

    • Trends and Convergence to Good Practice

  • IV On Instituting and Removing a Full “Blanket” Guarantee

    • Indications of Systemic Instability

    • Should a Deposit Insurance System Be Introduced in a Time of Crisis?

    • Allocating the Losses Caused by Bank Failures

    • Should a Full Guarantee Be Provided?

    • Principles to Follow When Offering a Full Guarantee

    • On Removing a Global Guarantee

  • V Summary and Conclusions

  • Bibliography

  • Statistical Appendix

  • Text Tables

  • II 1. Good Practices for Deposit Insurance

  • III 2. Countries with Explicit. Limited Deposit Insurance Systems

    • 3. Characteristics of Deposit Insurance Systems by Continent in 1995 and 2000

  • IV 4. Response to Selected Systemic Crises

    • 5. Good Practices for Blanket Coverage in a Systemic Crisis

    • 6. Length of Full Guarantees

  • Figures

  • II 1. Ratios of Deposit Coverage to per capita GDP in Selected Countries, 2000

  • III 2. Decade of Origination of Explicit Deposit Insurance Systems

    • 3. Insurance Fund Targets and Actual Levels Attained

    • 4. Premiums on Total Deposits, Insurable Deposits, Covered Deposits

    • 5. Deposit Coverage by Continent

    • 6. Percentage of the Number of Depositors Covered

    • 7. Percentage of the Value of Deposits Covered

    • 8. In Practice: Exclusions in the Year 2000

  • Boxes

  • II 1. Exclusions from Deposit Insurance Coverage

    • 2. Offsetting Loans Against Deposits

  • Statistical Tables

    • A1. Depositor Protection Schemes Explicitly Defined: Membership and Nature of the Deposit Insurance System

    • A2. Membership in Explicit Limited Deposit Insurance Systems

    • A3. Private and Official Funding for Explicit Limited Deposit Insurance Systems

    • A4. Building the Fund in an Explicit Limited Deposit Insurance System

    • A5. Deposit Coverage in Explicit Limited Deposit Insurance Systems

    • A6. Types of Deposit Covered and Excluded in Countries with Limited Explicit Deposit Insurance Systems

    • A7. Effective Coverage in Selected Countries

    • A8. Administering the Deposit Insurance System

The following symbols have been used throughout this paper:

  • … to indicate that data are not available;

  • n.a. to indicate not applicable;

  • — to indicate that the figure is zero or less than half the final digit shown, or that the item does not exist;

  • – between years or months (i.e., 1997–98 or January-June) to indicate the years or months covered, including the beginning and ending years or months;

  • / between years or months (i.e., 1997/98) to indicate a crop or fiscal (financial) year.

“Billion” means a thousand million; “trillion” means a thousand billion.

Minor discrepancies between constituent figures and totals are due to rounding.

The term “country,” as used in this paper, does not in all cases refer to a territorial entity that is a state as understood by international law and practice; the term also covers some territorial entities that are not states, but for which statistical data are maintained and provided internationally on a separate and independent basis.

Preface

This paper is the culmination of several years of work by the IMF on deposit insurance—a subject that has grown increasingly important in recent years. During the 1980s and early 1990s, the IMF staff, including McCarthy (1980), Galbis (1988), Fries (1990), Fries and Peraudin (1991), and Garcia (1996), examined the analytical underpinning of deposit protection. With the emergence of the transition economies in Central and Eastern Europe, the IMF focused on the introduction of deposit insurance in countries with diverse financial structures and different macroeconomic conditions. Requests from the transition countries prompted a search for good practices. In response, the IMF conducted a series of surveys of country practices, which were shared with all members of the IMF. Notable among these studies were Kyei (1995) and Lindgren and Garcia (1996).

During the mid- and late 1990s, a number of countries considered introducing deposit protection systems as a means of stabilizing their banking systems and protecting depositors from loss, and they sought advice from the IMF in this effort. The IMF generally has cautioned countries about such moves, arguing that appropriate political, institutional, and economic preconditions needed to be in place before deposit protection could be effective.

Given the continued requests from members for advice on depositor protection, IMF management called for the development of operational definitions of best practices on depositor protection to ensure that the IMF staff were providing consistent advice. This led to the 1996 operational paper, “Deposit Insurance and Crisis Management” by Carl-Johan Lindgren and Gillian Garcia. The paper was updated for presentation at the International Conference on Deposit Insurance arranged by the United States Federal Deposit Insurance Corporation in September 1998. This conference marked the first time deposit insurers from around the world convened to exchange views and experiences. The search for improved policies, standards, and practices led to the formation of a Study Group on Deposit Insurance under the auspices of the Financial Stability Forum (FSF). The study group recently issued its report and the search for an international consensus on deposit insurance designs and practices will be continued by a working group. The IMF is participating in this work of the stability forum.

The IMF staff has gained substantial experience regarding the benefits and pitfalls of deposit insurance systems and the preconditions for their success. Recent financial crises have also shown their limitations. The experiences of IMF staff in designing effective and incentive-compatible systems of deposit protection, and in the role of limited or full guarantees in resolving financial crises, are summarized in this Occasional Paper, which we hope will make a contribution to the international debate on the subject.

The author thanks Stanley Fischer, V. Sundararajan, Carl-Johan Lindgren, Charles Enoch. David Hoelscher, Michael Taylor, and participants in seminars sponsored by the IMF’s Monetary and Exchange Affairs Department for insightful comments; country authorities and staff from the IMF and the World Bank who have responded to her inquiries; Elena Budreckaite for expert research assistance; and the staff assistants, particularly Funke Orimoloye, Lidia Tokuda, and Constanze Schulz-Calle La Rosa, who have typed and retyped this material. The work has benefited from the editorial expertise of Jeff Hayden of the External Relations Department, who also coordinated its publication.

Actual and Good Practices
  • Akerlof, George A., and Paul M. Romer, 1993, “Looting: The Economic Underworld of Bankruptcy for Profit,” Brookings Papers on Economic Activity: 2, Brookings Institution.

    • Search Google Scholar
    • Export Citation
  • Alexander, William E., Jeffrey M. Davis, Liam P. Ebrill, and Carl-Johan Lindgren, 1997, Systemic Bank Restructuring and Macroeconomic Policy (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Allen, Linda, and Anthony Saunders, 1993, Forbearance and Valuation of Deposit insurance as a Callable Put,” Journal of Banking and Finance, No. 17, pp. 629 –43.

    • Search Google Scholar
    • Export Citation
  • Arzbach, Matthias, and Alvaro Duran, Proteccion de Depositos Bancarios en America Latina: Reformas Recientes y su Relevancia para Intermediarios Financieros,” Boletin published by CEMLA (Centro de Estudios Monetarios Latinoamericanos), Mexico-City, Vol. XLIV, No. 6, (November-December 1998).

    • Search Google Scholar
    • Export Citation
  • Baer, Herbert, and Daniela Klingebiel, 1995, “Systemic Risk when Depositor Bear Losses: Five Case Studies,” in Banking, Financial Market, and Systemic Risk, Vol. 7 of Research in Financial Services: Private and Public Policy, ed. by George G. Kaufman (Greenwich, CT: JAI Press), pp. 195 –302.

    • Search Google Scholar
    • Export Citation
  • The Basle Committee on Banking Supervision, 1997, “Deposit Protection Schemes in Member Countries of the Basle Committee,” Compendium of Documents Produced by the Basle Committee on Banking Supervision (Basle).

    • Search Google Scholar
    • Export Citation
  • Beck, Thorsten, 2000, “Deposit Insurance as a Private Club: The Case of Germany.” Paper presented at the World Bank Conference on Deposit Insurance (unpublished; Washington: World Bank).

    • Search Google Scholar
    • Export Citation
  • Benston, George J., and George G. Kaufman, 1988, “Regulating Bank Safety and Performances,” in Restructuring Banking and Financial Services in America” ed. by William S. Haraf and Rosemarie Kushmeider (Washington: American Enterprise Institute).

    • Search Google Scholar
    • Export Citation
  • Board of Governors of the Federal Reserve System, 1999, Using Subordinated Debt as an Instrument of Market Discipline, Staff Study No. 172 (Washington: Board of Governors of the Federal Reserve System).

    • Search Google Scholar
    • Export Citation
  • Demirguc-Kunt, Asli, and Enrica Detragiache, 1998, The Determinants of Banking Crises in Developing and Developed Countries,” IMF Staff Papers, Vol. 45, No. 1, pp. 81 –109.

    • Search Google Scholar
    • Export Citation
  • Demirguc-Kunt, Asli, and Enrica Detragiache, 1999, Does Deposit Insurance Increase Banking System Stability?” World Bank Policy Research Working Paper, No. 247, (Washington: World Bank).

    • Search Google Scholar
    • Export Citation
  • Demirguc-Kunt, Asli, and Enrica Detragiache, 2000, Does Deposit Insurance Increase Banking System Stability?” IMF Working Paper 00/3 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Demirguc-Kunt, Asli, and H. Huizinga, 1999, Market Discipline and Financial Safety Net Design,” World Bank Policy Research Working Paper No. 283 (Washington: World Bank).

    • Search Google Scholar
    • Export Citation
  • English, William B., 1993, The Decline of Private Deposit Insurance in the United States,” Carnegie-Rochester Conference Series on Public Policy, Vol. 93, pp. 57 –128.

    • Search Google Scholar
    • Export Citation
  • Enoch, Charles, Gillian Garcia, and V. Sundararajan, 1999, Recapitalizing Banks with Public Funds: Selected Issues,” IMF Working Paper 99/139 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • European Union, May 30, 1994, Directive 94/19/EC of the European Parliament and of the Council on Deposit Guarantee Schemes,” Official Journal of the European Communities, No. L, pp. 135/5 –12.

    • Search Google Scholar
    • Export Citation
  • Flannery, Mark J., 1995, Prudential Regulation for Banks,”in Financial Stability in a Changing Environment, pp. 281 –323 (New York: St. Martins Press).

    • Search Google Scholar
    • Export Citation
  • Folkerts-Landau, David, and Carl-Johan Lindgren, 1998, Toward a Framework for Financial Stability, World Economic and Financial Surveys (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Fries, Steven M., 1990, Issues in the Reform of Deposit Insurance and the Regulation of Depository Institutions,” IMF Working Paper 90/74 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Fries, Steven M., and W.R.M. Perraudin, December 1991, Banking Policy and the Pricing of Deposit Guarantees: A New Approach,” IMF Working Paper 91/131, (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Galbis, Vicente, December 1988, “Deposit Insurance: Policy Issues and Technical Aspects,” IMF Central Banking Seminar (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Garcia, Gillian, 1996, Deposit Insurance: Obtaining the Benefits and Avoiding the Pitfalls,” IMF Working Paper No. 96/83 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Garcia, Gillian, 1997a, Protecting Bank Deposits, Economic Issues Paper No. 9 (Washington: International Monetary Fund).

  • Garcia, Gillian, 1997b, “Depositor Protection and Banking Soundness,”in Banking Soundness and Monetary Policy: Issues and Experiences in the Global Economy, ed. by Charles Enoch and John H. Green (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Garcia, Gillian, 1999, Deposit Insurance: Actual and Best Practices,” IMF Working Paper 99/54 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Garcia, Gillian, 2000, Deposit Insurance and Crisis Management,” IMF Working Paper 00/57 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Garcia, Gillian, and Elizabeth Plautz, 1988, The Federal Reserve: Lender of Last Resort (Cambridge: Harper Row).

  • Honohan Patrick, and Daniela Klingebiel, 2000, “Controlling Fiscal Costs of Banking Crises,” Paper presented at the World Bank’s Conference on Deposit Insurance (unpublished; Washington: World Bank).

    • Search Google Scholar
    • Export Citation
  • Jackson, Patricia, 1996, Depositor Protection and Bank Failures in the United Kingdom,” Financial Stability Review, Vol. 1, pp. 38 –43.

    • Search Google Scholar
    • Export Citation
  • Kane, Edward J., 1989, The S&L Insurance Mess: How Did It Happen? (Washington: The Urban Institute Press).

  • Kane, Edward J., 1992, How Incentive-Incompatible Deposit-Insurance Funds Fail,” Journal of Financial Services Research, Vol. 4. pp. 51 –91.

    • Search Google Scholar
    • Export Citation
  • Kane, Edward J., 1995, Three Paradigms for the Role of Capitalization Requirements in Insured Financial Institutions,” Journal of Banking and Finance, Vol. 19, pp. 431 –59.

    • Search Google Scholar
    • Export Citation
  • Kaul, Inge, Isabelle Grunberg, and Marc A. Stern, 1999, “Concepts”in Global Public Goods, edited by Kaul, Inge, Isabelle Grunberg, and Marc A. Stern (New York: Oxford University Press).

    • Search Google Scholar
    • Export Citation
  • Kydland, Finn, and Edward Prescott, 1977, Rules Rather than Discretion: The Inconsistency of Optimal Plans,” Journal of Political Economy, Vol. 85 (June), pp. 473 –491.

    • Search Google Scholar
    • Export Citation
  • Kyei, Alexander, 1995, Deposit Protection Arrangements: A Comparative Study,” IMF Working Paper 95/134 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Lang, William W, and Douglas Robertson, 2000, Analysis of Proposals for a Minimum Subordinated Debt Requirement,” U.S. Office of the Comptroller of the Currency, Economic and Policy Working Paper 00/04 (Washington).

    • Search Google Scholar
    • Export Citation
  • Lindgren, Carl-Johan, and Gillian Garcia, 1996, “Deposit Insurance and Crisis Management,” MAE Operational Paper No. 96/3, (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Lindgren, Carl-Johan, and Gillian Garcia, and Matthew Saal, 1996, Bank Soundness and Macroeconomic Policy (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • Lindgren, Carl-Johan, Tomas J. T. Balino, Charles Enoch, Anne-Marie Guide, Marc Quintyn, and Leslie Teo, 2000, Financial Sector Crisis and Restructuring: Lessons from Asia, IMF Occasional Paper No. 188 (Washington: International Monetary Fund).

    • Search Google Scholar
    • Export Citation
  • McCarthy, Ian S., 1980, Deposit Insurance: Theory and Practice,” Staff Papers, International Monetary Fund, Vol. 27 (September), pp. 578 –600.

    • Search Google Scholar
    • Export Citation
  • Merton, Robert C, and Zvi Bodie, 1993, “Deposit Insurance Reform: A Functional Approach,” Carnegie-Rochester Conference Series on Public Policy. 38.

    • Search Google Scholar
    • Export Citation
  • Netherlands, 1996, The Law of the Kingdom of the Netherlands on Bankruptcy.

  • Peltzman, Sam, 1976, Toward a More General Theory of Regulation,” Journal of Law and Economics, Vol. 19 (June), pp. 152 –66.

  • Pennachi, George G., 1987, Alternative Forms of Deposit Insurance: Pricing and Incentive Issues,” Journal of Banking and Finance, Vol. 11, pp. 291 –312.

    • Search Google Scholar
    • Export Citation
  • Pennachi, George G., 1987, A Reexamination of the Over-(Or Under-) Pricing of Deposit Insurance,” Journal of Money, Credit and Banking, Vol. 19, pp. 340 –360.

    • Search Google Scholar
    • Export Citation
  • Posner, Richard A., 1974, Theories of Economic Regulation,” Bell Journal of Economics and Management Science, Vol. 5, No. 2, pp. 335 –58.

    • Search Google Scholar
    • Export Citation
  • Saunders, Anthony, 1994, Financial Institutions Management: A Modern Perspective, (Richard D. Irwin Inc. Burn Ridge, Illinois).

  • Sundararajan, V, and Tomas J.T. Balino, 1991, Banking Crises: Cases and Issues, ed. (Washington: International Monetary Fund).

  • Talley, Samuel H., and Ignacio Mas, 1990, Deposit Insurance in Developing Countries,” World Bank Policy Research and External Affairs Working Paper No. 548 (Washington: World Bank).

    • Search Google Scholar
    • Export Citation
  • United States, Federal Deposit Insurance Corporation, 1996, Manual of Policies and Procedures for Bank Liquidation and Receivership (Washington: FDIC).

    • Search Google Scholar
    • Export Citation
  • United States, House of Representatives, 1991, Federal Deposit Insurance Corporation Improvement Act of 1991: Report to Accompany H.R. 3768 (Washington: U.S. House of Representatives).

    • Search Google Scholar
    • Export Citation
  • Wood, Philip R., 1995, Principles of International Insolvency, (London: Sweet and Maxwell).

  • Wyplosz, Charles, 1999, “International Financial Instability,”in Global Public Goods, ed. by Inge Kaul, Isabelle Grunberg, and Marc A. Stern (New York: Oxford University Press).

    • Search Google Scholar
    • Export Citation