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2 The Limitations of Deposit Protection Systems

From: Deposit Protection and Bank Resolution

Nikoletta Kleftouri

From: Oxford Legal Research Library (http://olrl.ouplaw.com). (c) Oxford University Press, 2021. All Rights Reserved.date: 20 September 2021

Subject(s):
Deposit insurance schemes — Deposit protection schemes — Bank of England

This chapter first analyses the moral hazard problem arising from the provision of deposit insurance. Moral hazard is a powerful force distorting market behaviour, which demands a variety of regulatory techniques, as well as market incentives, to neutralize its destabilizing effects. Corporate governance issues are also relevant, because banks’ internal controls and balances have a key impact on the extent of moral hazard. In addition to a well-designed deposit protection system, it is necessary to enlist the support of banking regulation and supervision to combat moral hazard. Drawing on the UK deposit protection system, the chapter presents a number of ambiguities inherent to the design and functions of a deposit guarantee scheme. It concludes that the existence of effective prudential regulation and supervision are prerequisites for deposit insurance.

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