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Deposit guarantee:unintended consequences

The discussion on unintended consequences of the deposit guarantee and possible refinements to the guarantee has been building.

On Tuesday's 7.30 Report Treasurer Wayne Swan responded as follows:

"WAYNE SWAN: Well Kerry there have been concerns expressed by industry and they have been discussed extensively with the Reserve Bank and they've also been discussed extensively with the Treasury, as they have been raised with the Government, and that is why I indicated that we were looking at all of these issues, and that as we went through all of the details of the deposit guarantee and the term funding guarantee, we would be making a subsequent announcement on all of that detail. And that was said-

KERRY O'BRIEN: When do you-

WAYNE SWAN: -in the House last Wednesday.

KERRY O'BRIEN: When do you expect to make that announcement?

WAYNE SWAN: In the not too distant future, but Kerry it's very important to get this 100 per cent right. It is a difficult area. We acknowledge that.

When you make a comprehensive move such as the Government made, it will also have, it will always have some implications and knock on effects, and you do have to deal with those as they come along.

That's what the Government is doing, and that's what we said we would do-....

KERRY O'BRIEN: Is it true the Reserve Bank has expressed a view that there should be a cap on that guarantee?

WAYNE SWAN: No, the Reserve Bank is not arguing for a cap, that's Malcolm Turnbull's policy.

He's arguing for a cap of $100,000, and his cap would leave 40 per cent of all deposits in banks uncovered by any guarantee. What the Treasury and the Reserve Bank have been talking about is a threshold above which an insurance premium is charged for the guarantee.

That's what they've been discussing, a threshold somewhere north of $1 million.

KERRY O'BRIEN: And that threshold would be designed to, in some way, stop the flow of funds away from investment banks and other lending institutions that have no protection at all from a Government guarantee?

WAYNE SWAN: Well certainly it would be designed to ensure that there wasn't a distortion when it comes to funds above that level in the market.

And that's what we are looking, and as soon as we possibly can we will make that announcement."

For other comment see John Quiggin who suggests that "First, the government has to define the boundaries of its guarantee, making it clear that any investment outside the guarantee will not be bailed out under any circumstances. Second, it has to make it clear that there is a significant price to be paid for the guarantee. The price will include both an insurance premium and restrictions on risk-taking."

Joshua Gans argues that a premium scheme paid by investors will be hard to administer.

Full post as published by Australian Regulatory Compliance Review on October 21, 2008 (boomark / email).