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A Contracting-Theory Interpretation of the Origins of Federal Deposit Insurance

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Author Info
Edward J. Kane
Berry K. Wilson
Abstract

Conventional wisdom holds that the enactment of federal deposit insurance helped small rural banks at the expense of large urban institutions. This paper uses asymmetric information, agency-cost paradigms from corporate finance theory and data on bank stock prices to show how deposit insurance could and did help stockholders of large banks. The broadening stockholder distribution of large banks during the stock market bubble of the late 1920s undermined the efficiency of double liability provisions in controlling incentive conflict among large bank stakeholders. Federal deposit insurance restored depositor confidence by asking government officials to take over and bond the task of monitoring managerial performance and solvency at U.S. banks.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6451.

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Date of creation: Mar 1998
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Handle: RePEc:nbr:nberwo:6451

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G2 - Financial Economics - - Financial Institutions and Services
N2 - Economic History - - Financial Markets and Institutions

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

  1. Kane, Edward J., 1995. "Three paradigms for the role of capitalization requirements in insured financial institutions," Journal of Banking & Finance, Elsevier, vol. 19(3-4), pages 431-459, June. [Downloadable!] (restricted)
  2. Randall S. Kroszner & Raghuram G. Rajan, . "Organization Structure and Credibility: Evidence from Commercial Bank Securities Activities Before the Glass-Steagall Act," CRSP working papers 325, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
    Other versions:
  3. Grinblatt, Mark S. & Masulis, Ronald W. & Titman, Sheridan, 1984. "The valuation effects of stock splits and stock dividends," Journal of Financial Economics, Elsevier, vol. 13(4), pages 461-490, December. [Downloadable!] (restricted)
  4. Lamoureux, Christopher G & Poon, Percy, 1987. " The Market Reaction to Stock Splits," Journal of Finance, American Finance Association, vol. 42(5), pages 1347-70, December. [Downloadable!] (restricted)
  5. Black, Fischer & Miller, Merton H & Posner, Richard A, 1978. "An Approach to the Regulation of Bank Holding Companies," Journal of Business, University of Chicago Press, vol. 51(3), pages 379-412, July. [Downloadable!] (restricted)
  6. Benjamin C. Esty, 1997. "The impact of contingent liability on commercial bank risk taking," Proceedings, Federal Reserve Bank of Chicago, issue May, pages 402-434.
  7. Calomiris, Charles W & Kahn, Charles M, 1991. "The Role of Demandable Debt in Structuring Optimal Banking Arrangements," American Economic Review, American Economic Association, vol. 81(3), pages 497-513, June. [Downloadable!] (restricted)
  8. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Blackwell Publishing, vol. 51(3), pages 393-414, July. [Downloadable!] (restricted)
  9. Ritter, Jay R, 1991. " The Long-run Performance of Initial Public Offerings," Journal of Finance, American Finance Association, vol. 46(1), pages 3-27, March. [Downloadable!] (restricted)
  10. McNichols, Maureen & Dravid, Ajay, 1990. " Stock Dividends, Stock Splits, and Signaling," Journal of Finance, American Finance Association, vol. 45(3), pages 857-79, July. [Downloadable!] (restricted)
  11. Charles W. Calomiris & Eugene N. White, 1994. "The Origins of Federal Deposit Insurance," NBER Chapters, in: The Regulated Economy: A Historical Approach to Political Economy, pages 145-188 National Bureau of Economic Research, Inc. [Downloadable!]
  12. Robert C. Merton & Zvi Bodie, 1992. "On the Management of Financial Guarantees," Financial Management, Financial Management Association, vol. 21(4), Winter.
  13. Lee, Inmoo, 1997. " Do Firms Knowingly Sell Overvalued Equity?," Journal of Finance, American Finance Association, vol. 52(4), pages 1439-66, September. [Downloadable!] (restricted)
  14. Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October. [Downloadable!] (restricted)
  15. Peltzman, Sam, 1970. "Capital Investment in Commercial Banking and Its Relationship to Portfolio Regulation," Journal of Political Economy, University of Chicago Press, vol. 78(1), pages 1-26, Jan.-Feb.. [Downloadable!] (restricted)
  16. Gorton, Gary, 1988. "Banking Panics and Business Cycles," Oxford Economic Papers, Oxford University Press, vol. 40(4), pages 751-81, December. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Beck, Thorsten & Laeven, Luc, 2006. "Resolution of failed banks by deposit insurers : cross-country evidence," Policy Research Working Paper Series 3920, The World Bank. [Downloadable!]
  2. Demirguc-Kunt, Asli & Kane, Edward J. & Laeven, Luc, 2006. "Determinants of deposit-insurance adoption and design," Policy Research Working Paper Series 3849, The World Bank. [Downloadable!]
    Other versions:
  3. Ching-Yi Chung & Gary Richardson, 2006. "Deposit Insurance and the Composition of Bank Suspensions in Developing Economies: Lessons from the State Deposit Insurance Experiments of the 1920S," NBER Working Papers 12594, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  4. Laeven, Luc, 2004. "The political economy of deposit insurance," Policy Research Working Paper Series 3247, The World Bank. [Downloadable!]
    Other versions:
  5. Demirguc-Kunt, Asli & Kane, Edward J. & Laeven, Luc, 2006. "Deposit insurance design and implementation : policy lessons from research and practice," Policy Research Working Paper Series 3969, The World Bank. [Downloadable!]
  6. Malcolm Anderson, 1999. "Accounting History Publications 1998," Accounting, Business and Financial History, Taylor and Francis Journals, vol. 9(3), pages 375-384, November. [Downloadable!] (restricted)
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