Subsidization of S&Ls under the flat-rate deposit insurance system: Some empirical estimates

This study provides some estimates of the magnitude of the subsidies extracted by S&L holding companies under the present flat-rate deposit insurance system. The results suggest that the flat-rate deposit insurance system induces substantially uneven and inequitable distribution of subsidies among thrift institutions. The analysis of the thrift institutions' asset volatilities over the 1966–1988 period does not support the claim that deregulation of the industry has led to a systematic increase in risk-taking in the industry. On the other hand, we find that a large fraction of the asset volatilities are attributable to firm-specific investment policies and that the risk of the institutions' assets change considerably over time. Taken as a whole, the results suggest that switching to a risk-based deposit insurance system would be economically more efficient than the present scheme. We provide some recommendations for policy changes that can increase the efficacy of risk-based insurance by increasing the level of monitoring by depositors and the financial markets.