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The effect of deposit insurance on market discipline: Evidence from a natural experiment on deposit flows

  • Karas, Alexei

    ()

    (BOFIT)

  • Pyle, William

    (BOFIT)

  • Schoors, Koen

    (BOFIT)

We explore how the introduction of explicit deposit insurance affects deposit flows into and out of banks of varying risk levels. Using evidence from a natural experiment in Russia, we employ a difference-in-difference estimator to isolate the change in the deposit flows of a newly insured group (households) relative to an uninsured “control” group (firms). This approach improves on earlier studies seeking to identify the effect of deposit insurance on market discipline. We find that the relative sensitivity of households to bank capitalization diminished markedly with the introduction of an insurance program covering their deposits. This was not true for firms, however. We then show the finding is not an artifact of the two groups responding differently to a minor banking crisis that arose at roughly the same time.

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File URL: http://www.suomenpankki.fi/bofit_en/tutkimus/tutkimusjulkaisut/dp/Documents/DP0810.pdf
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Paper provided by Bank of Finland, Institute for Economies in Transition in its series BOFIT Discussion Papers with number 8/2010.

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Length: 32 pages
Date of creation: 19 Jun 2010
Date of revision:
Handle: RePEc:hhs:bofitp:2010_008
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Bank of Finland, BOFIT, P.O. Box 160, FI-00101 Helsinki, Finland

Phone: + 358 10 831 2268
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Web page: http://www.suomenpankki.fi/bofit_en/
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  1. Reint Gropp & Jukka Vesala, 2004. "Deposit Insurance, Moral Hazard and Market Monitoring," Review of Finance, European Finance Association, vol. 8(4), pages 571-602.
  2. Asli Demirguc-Kunt & Enrica Detragiache, 2000. "Does Deposit Insurance Increase Banking System Stability? An Empirical Investigation," Econometric Society World Congress 2000 Contributed Papers 1751, Econometric Society.
  3. Alexei Karas & William Pyle & Koen Schoors, 2009. "The Effect of Deposit Insurance on Market Discipline:Evidence from a Natural Experiment on Deposit Flows," Middlebury College Working Paper Series 0905, Middlebury College, Department of Economics.
  4. Ece Ungan & Selçuk Caner & Süheyla Özyıldırım, 2008. "Depositors’ Assessment of Bank Riskiness in the Russian Federation," Journal of Financial Services Research, Springer;Western Finance Association, vol. 33(2), pages 77-100, April.
  5. Park, Sangkyun & Peristiani, Stavros, 1998. "Market Discipline by Thrift Depositors," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 30(3), pages 347-64, August.
  6. Calomiris, Charles W., 1999. "Building an incentive-compatible safety net," Journal of Banking & Finance, Elsevier, vol. 23(10), pages 1499-1519, October.
  7. Demirguc-Kunt, Asl' & Kane, Edward J., 2001. "Depositinsurance around the globe : where does it work?," Policy Research Working Paper Series 2679, The World Bank.
  8. Vasso P. Ioannidou & Jan De Dreu, 2005. "The impact of explicit deposit insurance on market discipline," Proceedings 992, Federal Reserve Bank of Chicago.
  9. Timothy H. Hannan & Gerald A. Hanweck, 1986. "Bank insolvency risk and the market for large certificates of deposit," Working Papers in Banking, Finance and Microeconomics 86-1, Board of Governors of the Federal Reserve System (U.S.).
  10. James R. Barth & Gerard Caprio, Jr. & Ross Levine, 2002. "Bank Regulation and Supervision: What Works Best?," NBER Working Papers 9323, National Bureau of Economic Research, Inc.
  11. Koen Schoors, 2001. "The credit squeeze during Russia's early transition: A bank-based view," The Economics of Transition, The European Bank for Reconstruction and Development, vol. 9(1), pages 205-228, March.
  12. Demirguc-Kunt, Asli & Huizinga, Harry, 2004. "Market discipline and deposit insurance," Journal of Monetary Economics, Elsevier, vol. 51(2), pages 375-399, March.
  13. Brewer, Elijah, III & Mondschean, Thomas H, 1994. "An Empirical Test of the Incentive Effects of Deposit Insurance: The Case of Junk Bonds at Savings and Loan Associations," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 26(1), pages 146-64, February.
  14. Nier, Erlend & Baumann, Ursel, 2006. "Market discipline, disclosure and moral hazard in banking," Journal of Financial Intermediation, Elsevier, vol. 15(3), pages 332-361, July.
  15. van Soest, A.H.O. & Peresetsky, A. & Karminsky, A.M., 2003. "An Analysis of Ratings of Russian Banks," Discussion Paper 2003-85, Tilburg University, Center for Economic Research.
  16. William Tompson, 2004. "Banking Reform in Russia: Problems and Prospects," OECD Economics Department Working Papers 410, OECD Publishing.
  17. Vernikov , Andrei V., 2007. "Russia's banking sector transition: Where to?," BOFIT Discussion Papers 5/2007, Bank of Finland, Institute for Economies in Transition.
  18. Camara, Modibo K. & Montes-Negret, Fernando, 2006. "Deposit insurance and banking reform in Russia," Policy Research Working Paper Series 4056, The World Bank.
  19. Khaled Sherif & Michael Borish & Alexandra Gross, 2003. "State-owned Banks in the Transition : Origins, Evolution, and Policy Responses," World Bank Publications, The World Bank, number 14851.
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