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Ditch deposit insurance for fewer recessions: think tank

Ditch deposit insurance for fewer recessions: think tank

Last Friday (15 Janaury), the Centre for Policy Studies published a report on the Abolition of Deposit Insurance in which Andreas Wesemann, the author of the report, argues the government must stop insuring bank deposits.

Historically, this is a practice that has only resulted in an increase in the probability and severity of banking crises, the report stated.

The report stated the abolition of deposit insurance could counter-intuitively lead to a far more secure environment for depositors; a less regulated, more innovative banking sector; a less debt-burdened economy; fewer recessions and an end in perpetuity to the need for state bail-outs of UK banks.

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It goes on to delineate that deposit insurance has already been rejected in a number of sizeable Western economies, in particular New Zealand where a temporary scheme was ended in 2011 due to concerns that it was creating damaging risk incentives and thereby increasing the chance of bank failure.

Deposit insurance was replaced with a rapid resolution system to deal with bank failures - the Open Bank Resolution - a policy ensuring that customers would be able to gain access to their accounts and other bank services, while an appropriate long-term solution to a bank’s failure was identified.

Mr Wesemann said the existence of almost complete loss protection on a significant part of banks’ liabilities has distorted deposit pricing, retail investors’ willingness to use banks, and banks’ ability to grow and assume risk, adding that the macro-economic cost of this subsidy has been very significant.

He said: “The abolition of deposit insurance, supported by legislation outlawing such compensation payments, combined with the establishment of NS&I as a bank offering a full range of current account and savings products would trigger a significant strengthening and improvement of the UK banking sector.

“It could pave the way towards a world with less leverage, fewer recessions and a more functional involvement of the state making better use of its balance sheet.

Graeme McColgan, financial planner at Million Plus Financial Planning, said: “It is a difficult one.

“Yes there may well be evidence to support the abolition however, with the backdrop of the recent crisis(es) and the general public’s distrust of banks, I do not think now is the time to be making such a fundamental change in the protection for savers.

“We need things to settle down for a while before we rock the boat again.”

ruth.gillbe@ft.com