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The New Financial Architecture: Banking Regulation in the 21st Century

By: Benton E. Gup | Book details

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Page 142
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Once deposit insurers are better able to measure the risk profile of a bank, as opposed to assuming its risk to the fund from its current financial condition, a more meaningful system of risk-based premiums can be introduced. Traditional insurance pricing is based on risk profiles that are independent of the performance of the individual insured (for example, young drivers pay higher premiums even if they have a good driving record). Although a well-managed bank may take greater risks and make greater profits, it may nevertheless pose a greater risk to the insurance fund than a less profitable conservative bank. A risk-based premium system should recognize this risk difference and not just seek to charge high premiums to banks that may be in imminent danger of failing or are perceived to have weakened financially. The use of market data should help to identify the risk differences among banks that are equally profitable and well capitalized.


NOTES

The views expressed herein are the author's and do not necessarily reflect those of the Federal Deposit Insurance Corporation.

1.
Recently the three largest banks in Japan announced a proposed merger.
2.
All of the data included in this chapter are publicly available from the FDIC at www.fdic.gov.
3.
See Curry, Richardson, and Heider ( 1998) for a discussion of the direct and indirect risks associated with the international lending activities of U.S. banks.
4.
Similarly, Republic Bank, New York, is being acquired by HKS Banking Corporation, a British-owned bank.
5.
Oshinsky ( 1999, 20).
6.
See Marino and Bennett ( 1999).
7.
Clearly, the supervisory reviews undertaken as part of granting a charter are focused on future prospects.
8.
See Nuxoll ( 1999).
9.
FDIC ( 1999, 31).
10.
See OCC ( August 1998, 1).
11.
See OCC ( July 1998, 1).
12.
Clearly, while the failure of a large number of small banks poses no financial threat to the insurance fund, there are implications in terms of the workload of the FDIC. More important, widespread failures of banks can have an impact on public confidence in the financial system.
13.
The Bank of England has performed this type of analysis as part of its bank supervision responsibilities for many years.
14.
See, for example, Flannery and Sorescu ( 1996) and Flannery, Kwan, and Nimalendran ( 1998).
15.
While bank regulators use off-site systems to monitor banks between examinations, these rely solely on financial information reported by banks.

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