Deposit Insurance and Design: Effects on Bank Lending During the Global Financial Crisis

Abstract

This paper investigates how explicit deposit insurance (EDI) scheme in place influence bank lending during the global financial crisis. Earlier studies reveal tightened overall corporate lending, even lesser amount to foreign borrowers (a “flight home” effect) charging higher interest rates during the 2007-2009 crisis. We report that banks in countries with EDI are associated with smaller reductions (increases) in lending (spreads) and quicker post-crisis recovery. These effects are more pronounced for banks heavily relying on deposit funding. Evidence also reveals that more generous or credible deposit insurance designs are associated with stronger stabilization effects on bank lending during the crisis.