Depositor Preference, Bail-In, and Deposit Insurance Pricing and Design

Abstract

This paper considers how current developments in depositor preference and resolution arrangements affect deposit insurance scheme design and pricing. It argues that they substantially reduce the merits of the conventional view that ex ante risk based premiums are desirable. Depositor preference arrangements can, in many circumstances, reduce the “fair value” of deposit insurance and the risk to the insurance fund to virtually zero, because other subordinated bank stakeholders are, effectively, providing the insurance. Banks might be expected to incur the cost of some depositors being protected through higher returns demanded by subordinated stakeholders, and explicit fees for deposit insurance would then involve unwarranted duplicate costs. However if implicit guarantees are believed to exist banks would not face such costs. If higher capital and “bail-in” debt requirements do not reduce the value of implicit guarantees to zero, an appropriate approach is then to charge fees for those implicit guarantees based on total liabilities, such as to finance a “resolution fund”, rather than fees on insured deposits above the fair value (of zero) for the explicit insurance. The implications of bail-in proposals and of collateralised funding and netting arrangements for deposit insurance are also considered.