Industry Environment, Bank Risk-Taking and Deposit Insurance

Abstract

Classic theories always ignore the influence of the banking industry environment on deposit insurance’s regulation mechanism. With information transparency and competition degree dimensions, we build a banking risk-taking model and find that the optimal regulation mechanism does not depend on the advantage of the scheme oneself, but it is a trade-off of bank’s risk incentive which involves the banking industry environment. Under the suitable competition degree, fair-priced explicit deposit insurance is optimal when the information transparency is high. Otherwise implicit deposit insurance is optimal; moreover if the competition is fierce, then deposit insurance’s regulation fails. We find that in the regulation feasible region, the improvement of industry environment will correct moral hazard; however in the regulation failure region, we perfect the exit mechanism of the bank which is in trouble by giving the disposal cost pricing strategy. And the most important is that this regulation mechanism demonstrates the endogenous cause of the exist of China’s implicit guarantee system featured by strict administrative control. Based on our research we think that if we do well with the delegating power and strengthening regulation, improve the industry environment, and the collaboration with different policies then we will reform the regulation system successfully and improve the society’s economic efficiency.