Insurance for a rainy day
The Deposit Protection Scheme Ordinance became law two weeks ago. Once activated, prospectively in 2006, it will provide insurance for deposits of up to $100,000 per depositor per bank.
This has a long history. The idea was explored, but rejected, after the collapse of the Bank of Credit and Commerce International in 1992, only to be revived five years ago, leading to this more definitive outcome. The stronger banks were traditionally resistant to the idea, regarding it as effectively a cross-subsidy to the weaker ones. But they have been brought on board by the promise of differential premiums, based on the Monetary Authority's confidential assessment of relative riskiness. Thus, premium rates for the strongest banks, at 0.05 per cent of relevant deposits during the initial years, will be only about one-third of those for the weakest banks.
One might, nevertheless, wonder whether Hong Kong really needs such a scheme. After all, banking regulation here has matured and complies with the top international standards, and is supposedly to be further enhanced by the implementation in 2007 of revised international capital adequacy standards - so-called Basel II. Moreover, mandatory insurance might be seen as at odds with Hong Kong's market-oriented philosophy.
However, the scheme does have merit in reducing the risk of bank scares which have a habit of developing into bank runs, and in providing for prompt repayment of deposits in the event of a bank closure, rather than having to wait months or years for liquidators to complete their work. And the cost of the premiums, even if passed on to customers, will not be particularly onerous.
One can detect additional, if less compelling reasons, for the administration taking this road. One is the safety-in-numbers argument: the vast majority of other advanced financial economies, as well as many less-advanced ones, operate such schemes; if we remain outside the fold, then, in the event of some disaster which insurance might have averted, there is a danger both of the others crowing 'we told you so', and of our own citizens vehemently protesting: 'Why weren't we insured like others?' It is also perhaps not entirely coincidental that Singapore is at a fairly advanced stage in preparing its deposit insurance scheme. Notably absent from the list, however, are Australia and New Zealand, which prefer to rely on high levels of disclosure from banks and to emphasise caveat emptor (buyer beware) to depositors.
Hong Kong's decision may also have been influenced by the fact that the International Monetary Fund recommends that all jurisdictions implement some form of deposit protection. Our administration has always been eager to do whatever it takes to get a pat on the back from that quarter.
What, if any, is the downside - other than the possible moral repugnance of government intervention? Not a lot. Premiums on the proposed scale are unlikely to materially affect business. The benefit to smaller or weaker banks, in appearing safer to depositors, is likely to be counterbalanced by their having to factor higher insurance premiums than others into deposit rates. There is a theoretical argument that banks will be less careful in what they do with depositors' money, but in practice, responsibilities to regulators and shareholders, and management's own self-esteem, make it unlikely.
All in all, this scheme can probably be welcomed for the comfort it dispenses, especially as there are few obvious risks. Yet the biggest welcome may come from the Monetary Authority itself. Life there will be that much easier, since the probability of the regulator's worst nightmare becoming reality - namely, a queue of hundreds forming outside some hapless bank - will now be even more remote.
Tony Latter is a visiting professor at the University of Hong Kong
