FSB probes deposit insurance response to crisis

The Financial Stability Board (FSB) on Friday announced a review of systems for deposit insurance across its 24 member countries.

Schemes to protect bank depositors have been a feature of financial regulation and supervision for many years, but attracted attention during the crisis following government extensions of the coverage to, notably in the case of Ireland, all bank deposits.

The review has a strong focus on cross-border cooperation and the effectiveness of reforms introduced during the financial crisis.

The FSB asks in its questionnaire what extraordinary depositor protection enhancement measures were introduced during the financial crisis and whether they were introduced only to reassure bank depositors or if they were a competitive response to similar moves by other countries. It further asks whether consultation with other countries took place prior to introducing such measures and if there was any coordination with other jurisdictions on the unwinding of temporary measures introduced during the crisis.

"While necessary to reduce the probability of bank runs, extensive enhancements of depositor protection during the crisis, and the lack of cross-border coordination on the issue signal substantial vulnerabilities within regulatory, supervisory and fiduciary systems in the euro area and the United Kingdom," Constantin Gurdgiev, a lecturer in finance at Trinity College Dublin, told Centralbanking.com.

In order to prevent future potential bank runs from evolving into a run on sovereign guarantees, systems need to be significantly reformed, said Gurdgiev. "Ireland represents an interesting case study of the limits to the effectiveness of sovereign deposits guarantees as well as establishes the case for the need for closer cross-border cooperation ex ante," he said.

"The uncoordinated nature of the guarantee triggered significant backlash from other euro area member states and the UK - a backlash that completely ignored substantial implicit subsidy granted under the guarantee by Irish taxpayers to the banking institutions in the euro area and the UK which were net funders of the six Irish banks. In effect, therefore, Irish taxpayers became the underwriters not only of some €232 billion-worth ($337 billion) of residents' deposits and €23.6 billion of domestically held banks debt securities, but also €160 billion non-resident deposits and €73.5 billion-worth of foreign-held banks debt securities," said Gurdgiev.

He added: "With proper coordination mechanisms in place ex ante the crisis, such transfers - both open and implicit - could have been dealt with on a more direct basis, with Irish exchequer being ring-fenced from assuming onerous liabilities written against Irish banks and held by cross-border institutions."

The FSB also called for feedback from financial institutions, industry and consumer association on the role of deposit insurance in the broader financial system safety net; the effectiveness of reforms undertaken in response to the financial crisis; and potential gaps in terms of coverage, cross-border cooperation, funding, public awareness and depositor reimbursement.

The deadline for responses is August 26, 2011 and the peer review report will be published in early 2012.

The FSB has 24 members. It can promote but not implement any recommendations.