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Deposit insurance

Financial instability is not a thing of the history. Northern Rock or Continental Illinois can be good examples of how far bank failures can damage to the economy. Deposit insurance scheme is recently a response to concerns about financial stability and handling failures. Garcia (2000) states the pioneer is Czechoslovakia, starting the nationwide scheme in the 1920s. During the Great Depression, Federal insurance in U.S was established in 1934 to prevent widespread bank runs. As pointed out by Demirgüç-Kunt and Detragiache (2002), since 1980s there has been a tendency of spreading deposit insurance in many OCED countries and developing countries. Although deposit insurance becomes increasingly preferable by many policymakers, the effectiveness and the necessity of deposit protection remains questionable to great extent.

language english
wordcount 2909 (cca 8 pages)
contextual quality N/A
language level N/A
price free
sources 0
Table of contents

1. Introduction
2. Bank problems and deposit insurance
3. Objectives of deposit insurance
4. Rationale of deposit insurance
5. Deposit insurance in practice
6. Conclusion

Preview of the essay: Deposit insurance

The vital role of banks is undeniable in many economies: intermediation between surplus and deficit, payment mechanism and also in provision of financial services. Because of the pivotal position of banks in the economy, there is an increasing debate about the effects of banking problems to a stable financial system. The fragility of banks and the widespread recognition of bank runs, failures, panics can devastate economies even in terms of global scale. These issues have recently been a concern of the public policy, to foster bank safety and regulations. From economic perspective, bank failures are harmful and costly; as a result, preventions such as regulations, government ...

... raising high concern about prudential regulation. The research by Garcia (2000) suggests that: in normal times, deposit insurance system should be started when the financial system is sound. The criteria of a good system should be mandatory, independent but accountable together with having good connection with bank supervision. Otherwise, in case of financial crises, an explicit guarantee should be declared to gain consumer confidence. A study by Gropp and Vesala (2001) discovers that charter value and subordinated debts of bank had high relations to its risk taking at the post-insurance time. Hence, along with strengthening the effectiveness of deposit insurance, the government should introduce tighter regulation such as capital requirements to maintain the sound system.
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