Abstract
An option-theoretical framework was employed to solve the level of capital at which Taiwan's deposit insurer would just break even in guaranteeing the deposits of individual banks. The method is applied to ten banks in Taiwan yearly from 1985 to 1992. Asset value and volatility parameters were estimated using the maximum likelihood method via market-based equity data. These critical values were then applied as inputs in Merton's (7) deposit insurance pricing model towards yielding the fair levels of capital adequacy for each individual bank. The estimates showed that, except for in 1989, most of the sample banks were inadequately capitalized. Additionally, estimates of adequate levels of capital for the four commercial banks were found to generally exceed 10 billion NT (US$ 400 million). This finding indicates that the 10 billion NT initial capital requirement now imposed on new commercial banks, though generally perceived as high by the public, may actually not be adequate.
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