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Bank Capital Adequacy versus Deposit Insurance

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Abstract

This paper re-evaluates the Diamond-Dybvig analysis of deposit insurance by constructing a model in which an agent not in need of liquidity sets up a financial intermediary to sell liquidity insurance to other agents who desire such insurance. This intermediary resembles a real-world bank in that it is financed by both demand deposits and equity. It also dominates the Diamond-Dybvig intermediary, which is funded only by demand deposits. Provided the intermediary has adequate capital, it also is perfectly safe. Deposit insurance then is both unnecessary and incapable of achieving a superior outcome to that which private agents could achieve on their own.

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Authors and Affiliations

  1. Department of Economics, University of Sheffield, UK

    Kevin Dowd

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  1. Kevin Dowd
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Dowd, K. Bank Capital Adequacy versus Deposit Insurance. Journal of Financial Services Research 17, 7–15 (2000). https://doi.org/10.1023/A:1008149106536

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  • DOI: https://doi.org/10.1023/A:1008149106536

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