Financial Crisis: Deposit Insurance and Related Financial Safety Net Aspects
OECD - Financial Market Trends 2008
Download Document| Date Published | 2008 |
| Version | |
| Primary Author | Sebastian Schich |
| Other Authors | |
| Theme | Global Financial Crisis |
| Country |
Abstract
Government provision of a financial safety net for banks and other financial institutions has been a key element of the policy response to the current financial crisis. In the process, the design of many safety net elements, such as deposit insurance, has been redrawn in many jurisdictions. In particular, governments extended existing guarantees and introduced new ones. While these measures did not address the root causes of the lack of confidence, they were nevertheless helpful in avoiding a further accelerated loss of confidence, thus buying valuable time. But they are not costless. First, like any guarantee, deposit insurance coverage gives rise to moral hazard, especially if the coverage is unlimited. Clearly, in the midst of a crisis, one should not be overly concerned with moral hazard, as the immediate task is to restore confidence, and guarantees can be helpful in that respect. Nonetheless, to keep market discipline operational, it is important to specify when the extra deposit insurance will end, and this timeline needs to be credible. Second, the co-existence of different levels of protection could give rise to unfair competitive advantages, vis-à-vis other forms of savings or vis-à-vis other deposit-taking institutions that do not enjoy the guarantee. Third, to make a guarantee credible it is important to specify the manner in which it will be provided. There is the possibility that the capacity of some governments to provide for the guarantee that they have announced or implied in announcements may be questioned. Looking ahead, a sharper policy focus will have to be placed on “exit strategies”, especially where unlimited guarantees have been extended. In this context, the fundamental question remains whether government guarantees can be a one-off proposition. There may be a general perception that, once extended in one crisis, a government guarantee will always be available during crisis situations.