Deposit Insurance and External Finance

Abstract

In this article we examine one potential explanation for the cross-country differences in the importance of banks and capital market financing of investment. We provide both an equilibrium model predicting and empirical evidence showing that countries with explicit deposit insurance and a high degree of state-owned bank assets have smaller equity markets, a lower number of publicly traded firms, and a smaller amount of bank credit to the private sector. Finally, our results suggest that the effects of deposit guarantees are more important than the origins of national legal systems. (JEL G21, G22, G32)