Deposit Insurance and Market Discipline

36 Pages Posted: 25 Oct 2019

Date Written: September 30, 2019

Abstract

A standard feature in deposit insurance schemes that counterbalances moral hazard is limited
coverage. It achieves this by reinforcing market discipline: depositors have greater incentives to
monitor banks’ risk-taking. In this paper I study market discipline and coverage levels by analyzing
the relationship of funding costs and deposit growth with banks’ leverage, non-performing loans
and profitability. I use a database of Colombian banks’ balance sheets and take advantage of
a sudden, significant and exogenous increase in the coverage level that occurred in 2017. I find
evidence of market discipline throughout the period of analysis and no indication of it diminishing
when coverage levels changed. Furthermore, funding costs appear to be impacted by size-related
variables and there is no evidence of market discipline when analyzing only big banks.
Too-big-to-fail perceptions seem to impact market discipline.

Keywords: Deposit Insurance, Market Discipline, Deposit Insurance Coverage

JEL Classification: E65, G21, G28

Suggested Citation

Quintero V, Juan Carlos, Deposit Insurance and Market Discipline (September 30, 2019). Available at SSRN: https://ssrn.com/abstract=3470428 or http://dx.doi.org/10.2139/ssrn.3470428

Juan Carlos Quintero V (Contact Author)

FOGAFIN

Cr 7 35-40
Bogota
Colombia

EDHEC Business School (EDHEC) ( email )

France

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