A Functioning European Deposit Insurance Scheme DIRK SCHOENMAKER - - PowerPoint PPT Presentation

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

3

Current Banking Union framework

SRB ECB EC ESM NCB

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

ØState deposit insurance funds in US went bankrupt ØNational schemes in EU during crisis ØSolution: 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) ØFirst part at national level (including partial clawback / ex-post fees) ØRemainder 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 1st round effect: negative impact stability national banking system Ø 2nd round effect: credit function hampered -> neg impact on economy

• Vicious cycle national banking system and domestic economy

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Sovereign exposures

Sovereign Domestic banks

Direct Linkages

including deposit insurance

Indirect Linkages

Guarantees (implicit + explicit),

Domestic Economy

Bank – sovereign linkages

Consequences

• National compartments mean that there is a continuing need

for national banking supervision ØNational liquidity and capital requirements ØNo free banking flows in Banking Union ØKeep branch/sub gaming between banks and supervisors ØNo 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:

ØSRDIB – integrated body like FDIC and DICJ ØSRDIF – integrated single resolution and deposit insurance fund (needs less than two separate funds) ØOf course, transition period

• Other parts

ØECB becomes LOLR (ELA) ØESM becomes EMF

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Joint SRDIF cheaper

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Completed Banking Union

SRDIB ECB EC EMF ECB

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

ØCountry 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