A Functioning European Deposit Insurance Scheme DIRK SCHOENMAKER RSM & BRUEGEL 19 MARCH 2018
Outline 1. Basics of deposit insurance 2. National compartments are destabilising 3. Addressing moral hazard 4. EDIS integrated in Banking Union 5. Conclusions
Current Banking Union framework EC ECB NCB SRB ESM 3
Basics of deposit insurance • Diamond-Dybvig (1983): deposit insurance to prevent bank runs in a fractional reserve banking system • Depositors: it only works, if beyond doubt (credibility) • Banks: impact on remaining banks should not (further) weaken banking sector (e.g. through ex post fees) • Governments: address adverse selection and moral hazard aspects to minimise exposure as fiscal backstop
National compartments sound nice • Smaller funds are more vulnerable Ø State deposit insurance funds in US went bankrupt Ø National schemes in EU during crisis Ø Solution: large fund with credible fiscal backstop • Idea of national compartments is to limit solidarity, because of lack of political support (Gros, 2015; Schnabel & Veron, 2018) Ø First part at national level (including partial clawback / ex-post fees) Ø Remainder at Eurozone level
But can be destabilising (1) • Distinction idiosyncratic / systemic crisis Ø Bureaucratic debate -> complicating crisis management • Banks often fail during recession, payouts happen when surviving banks are also not in good shape Ø Surviving banks have to refill national compartment (SNS example) Ø Destabilises national banking system (compared to rest of BU)
But can be destabilising (2) • So, national compartments are self-defeating Ø 1 st round effect: negative impact stability national banking system Ø 2 nd round effect: credit function hampered -> neg impact on economy • Vicious cycle national banking system and domestic economy
Bank – sovereign linkages Sovereign exposures Sovereign Domestic banks Direct Linkages Guarantees (implicit + explicit), including deposit insurance Indirect Linkages Domestic Economy 8
Consequences • National compartments mean that there is a continuing need for national banking supervision Ø National liquidity and capital requirements Ø No free banking flows in Banking Union Ø Keep branch/sub gaming between banks and supervisors Ø No Eurozone banks, but French, German, Dutch … banks
Need to address moral hazard • EC: concentration limits on sovereign bonds (Veron, 2017) • ECB: reducing NPLs (adverse selection) and ongoing supervision (moral hazard) • SRDIB: country risk component in deposit premium (moral hazard) proposed by Schnabel and Veron (2018)
EDIS integrated in Banking Union • All functions at European level • Integrated resolution and deposit insurance: Ø SRDIB – integrated body like FDIC and DICJ Ø SRDIF – integrated single resolution and deposit insurance fund (needs less than two separate funds) Ø Of course, transition period • Other parts Ø ECB becomes LOLR (ELA) Ø ESM becomes EMF
Joint SRDIF cheaper 12
Completed Banking Union EC ECB ECB SRDIB EMF 13
After transition: full Banking Union • Lift national liquidity and capital requirements • Country risk component gives incentive to phase out various differences • What to do with LSIs? – At the moment, national supervision + deposit insurance – But included in SRM and SSM (ECB end-responsible) – So, incorporate in SRDIF • End result: fully integrated Banking Union
Conclusions • Yes, we need to address moral hazard concerns Ø Country specific component in risk-based premium • But no national compartments, as these can be destabilising • Joint SRDIF cheaper than two separate funds • We have to keep the Banking Union rationale
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