[PASSED] Deposit Insurance Fund

[Araraukar]

IC: The intern-esque young woman sitting on the Araraukarian seat currently, scans quickly through the proposal, looking for the basic gist on it. Then she takes a red ink pen and writes at the top: "This is about banks not having enough money. N/A for Araraukar." She then leaves the room.

OOC: Araraukarian economy is basically almost completely digital, and the state controls all essential functions like banks. And yes I know it's a weird society, but it's a very large nation with lots of people (population is just over two billion, though they're trying to bring the number down humanely), and that helps to make it all work.

OOC EDIT: I say almost completely digital, because as long as everyone understands that you can't complain about such a system to the state, if it turned out to be a scam of some kind, people can feel free to use trading sticks as currency in private trades if they want, for all the government cares. The official national currency is digital and completely state-controlled.

[Wallenburg]

I'm aware that this tackles things in a different manner than "Preventing Financial Crises", but are the two really simultaneously necessary? Seems like a whole lot of overkill.

OOC: IA can correct me if I'm misunderstanding these proposals, but here's my take in plain language:

To the extent that the WA has any business regulating international finance, the two proposals are regulating very different things. This one prevents and cures savings bank (i.e. "I have to go to the bank" banks) insolvency (which affects people's savings and wealth), while the other prevents and cures central or investment bank (i.e. banks that lend to your bank) insolvency, which is a proximate cause of savings bank insolvency. The problems and solutions faced by the different types of institutions are not identical, necessitating two different resolutions.

OOC: I ask because banks can operate many different kinds of banking operations simultaneously (for instance, Bank of America both runs individual credit, debit, and savings accounts and runs one of the largest investment banking operations in the world). Both this and "Preventing Financial Crises" serve a primary function of preserving liquidity among banks. This does so by providing insurance services, whereas "Preventing Financial Crises" does so primarily by running an international securitization scheme. So, as I'm sure you can see, the two proposals tackle illiquidity through different methods, but their end goals remain nearly identical.

I'll ask again, just to be clear. Why are both of these necessary?

[Imperium Anglorum]

OOC: Araraukarian economy is basically almost completely digital, and the state controls all essential functions like banks. And yes I know it's a weird society, but it's a very large nation with lots of people (population is just over two billion, though they're trying to bring the number down humanely), and that helps to make it all work.

I've got two ideas: (1) you don't know what bank runs are and (2) MMT. In the former, you still have that problem. In the latter, money is long-run neutral and market actors adjust.

OOC: I ask because banks can operate many different kinds of banking operations simultaneously (for instance, Bank of America both runs individual credit, debit, and savings accounts and runs one of the largest investment banking operations in the world). Both this and "Preventing Financial Crises" serve a primary function of preserving liquidity among banks.

That one does have that primary function. This has a different function of preserving liquidity amongst depositors. Banks also will still fail under the the latter scheme if they are actually not solvent. In the case of a financial shock, the former also doesn't deal with deposit-taking institutions per se. It deals more broadly with the shadow and non-shadow banking system.

But most fundamentally, there are two different channels to the real economy, with two different time lags. In PFC, capital allocation is adversely affected and that's what we care about. If you are inefficiently allocating capital, then your economy cannot grow or recovers slowly (consider depreciation, production, and capital stock). Here, there are direct transmission channels from a wealth shock or liquidity shock to current consumption, and thus, the real economy.

It is definitely the case that there is an overlap between the two proposals. They both deal with preventing the possible breakdown of financial intermediation from having transmitting to the real economy. If you ask me, both are necessary. We had one during the Great Depression. Banks failed in the thousands every year, wiping out savings across the country (e.g. in 1932, ~4000 banks failed; in the period 1933–2016, ~4000 banks failed; the FDIC was formed by the Banking Act of 1933). In 2008, we had both systems, along with hundreds of billions of dollars in fiscal stimulus. Recovering from it was not a straightforward matter. Even after mitigation, it was pretty bad.

On top of that, PFC doesn't deal with savers. It deals primarily with corporations and certain asset classes. One could imagine (and I could pull up for you, from the Failed bank database and Call reports, examples of) certain banks not dealing with those asset classes or not being solvent at all, which then pass losses to those holding bank liabilities, like depositors. Simply put, at a broad level, we should not have some kind of expectation that small residential depositors are going to keep hyperfine vigilance on their bank. This is especially the case when many of those depositors don't understand finance (or, in many cases, even how credit cards work). Implicitly punishing them for someone elses' mistakes seems overly punitive.

If anything, there has to also be two more counter-cyclical mechanisms acting through monetary policy and fiscal stimulus. Monetary policy is best done independently with different kinds of monies. Though, there is definitely room for balance of payments corrections. Fiscal stimulus could be made easier by favourable sovereign lending, but considering the possibilities of corruption, I would caution against that.

[Yohannes]

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Thank u for your time and the well informative post (it was really good to read!) IA! Hoping the best for the proposal!

[Araraukar]

I've got two ideas

OOC: That's ok, I've got one: I don't care. It works for my RP. I'm not even trying to RP hyper-realistically, just like you aren't. We just differ in what we want to be very nitpickery about. But if something's non-applicable for my RP, you can argue as much as you want, about how RL works, I'm still going to ignore it. I think accepting this will save both of us a lot energy that would be otherwise wasted on trying to get the other see one's point of view.

It's compromise meaning I won't get in the way of your financial lectures, I'm just not going to apply them to my RP. It's not non-compliance if it's just not applicable.

[Imperium Anglorum]

Bumped again. I looked at the twin proposal and then realised this one is over the character limit. Some minor edits also made.

[Imperium Anglorum]

Likely next.

[Kelssek]

All member nations are encouraged to establish a deposit insurance scheme that meets or exceeds the protective standards given by the Deposit Insurance Fund. But when a member nation lacks the institutional regulatory capacity to credibly insure deposits, they may not establish such a scheme. All depository institutions are encouraged to enrol, and all such institutions with demand accounts are required to enrol, in the Deposit Insurance Fund.

Firstly, the bolded portion has a double meaning which could be read as banning member states without institutional capacity from establishing deposit insurance schemes, which is surely not the intent here. But a more serious concern is that it's not clear from section 1 who exactly is required to enrol in the WA scheme - all depository institutions with demand accounts period, or only those in member states which don't have their own deposit insurance schemes?

On a policy note, this creates a free rider problem. Wouldn't there be an incentive for states to drop the entire burden of deposit insurance onto the World Assembly's scheme?

Section 4 gives excessively broad power to this deposit insurance fund by failing to impose any defined scope or mandate. I'm sure most of us in this hall are well aware how bureaucracies seek to expand their activities and eat up more and more resources if given overly broad and ill-defined goals or mandates. One-size-fits-all rules are inappropriate for the vast diversity of economic, social, and political systems that this proposed body's regulations could affect. Clear boundaries are needed here.

[Bananaistan]

All member nations are encouraged to establish a deposit insurance scheme that meets or exceeds the protective standards given by the Deposit Insurance Fund. But when a member nation lacks the institutional regulatory capacity to credibly insure deposits, they may not establish such a scheme. All depository institutions are encouraged to enrol, and all such institutions with demand accounts are required to enrol, in the Deposit Insurance Fund.

On a policy note, this creates a free rider problem. Wouldn't there be an incentive for states to drop the entire burden of deposit insurance onto the World Assembly's scheme?

"Agreed. The People's Republic of Bananaistan opposes this attempt to use the fruits of the labour of our people to bail out reckless capitalists when the inevitable recession hits under standard, cyclical capitalism. "

[The Macaronesia]

Dear representative,

I have read the draft and followed the discussion with high interest and I would want to congratulate you all for this interesting proposal which is almost sure that will gain my support. Nevertheless, I would want to ask for two specific scenarios:

• About resolving an IDI: is the case in which the Fund is authorized to perform accounting operations to reduce liabilities over assets ratio, such as reducing IDI's shareholder equity to compensate its liabilities, considered in the draft? I interpret it is at clause 2.c.iv, but I feel it would be advisable to explicitly include this provision. For instance, clause 2.c.iv could be written as follows:
  

  (iv) It may administer the IDI until such time that it is able to take other action, which includes any legal accounting operation in order to reduce IDI's liabilities over assets ratio.

  
  
• And also about resolving an IDI: it could happen that, after having decided to resolve an IDI, facts about fraudulent management could come to light. I feel the Fund can ask for refunding the costs faced up if resolution was caused by a disloyal or fraudulent management from IDI's managers.
  
  So I suggest a new clause for this proposal:

  6. In the case an IDI has been resolved, and if that IDI's managers have been found guilty of disloyal or fraudulent management, and if the judicial verdict considers the mismanagement is a cause or a contributing factor to the problems which leaded the resolution, the Fund is authorized to claim IDI's managers to totally or partially refund the costs the Fund had to face up to resolve the IDI.

So, in my opinion, these two proposals can give more power to the Fund and help it to protect customers' savings from not only from accidetal bankruptcy, but also prevents disloyal or fraudulent managers to avoid their responsibility with the Fund. In the case you have any remark or argument, please feel free to share it in order to give clarification or improving these amendments,

Thank you very much.

[Imperium Anglorum]

Regarding a 'free rider' problem. There isn't one, because the costs of insurance are apportioned not by nation, but by fees for service by each member institution. These fees for service are also adjusted for risk. To identify a free rider issue, one must find a place where costs are being borne disproportionately.

Deposit insurance and weak institutions. On the prohibition of setting up a deposit insurance scheme in a country without institutional capacity, see supra viewtopic.php?p=35156528#p35156528 (specifically, the last highlight in the last paragraph of the blockquote).

Equity shareholders vs depositors. There is a difference between depositors and shareholders, as the first are liabilities and the second are equity capital. The difference is crucial in the same way that insurance may be called for to protect workers' back-pay—a liability, not equity—not paid by cause of insolvency. Otherwise, warrant why depositors should be called upon to shoulder this burden.

Interim administration authority. Broadly, regarding resolution method (iv), the intention there is to provide for DINB/bridge bank authority. The sale of failed bank assets can be difficult if the assets are not adequately managed: the franchise value of the failed bank is minimal, and in an illiquid environment, would be extra costly on the deposit fund. By permitting authority to run the bank until such time that prices recover or stability is restored, instead of requiring immediate liquidation, less is wasted on fire sales.

Fraud. Asked and answered. As I told SL at the very start of this thread about where post 5 is,

Regarding the above. I'm not a big fan of such actions to be performed by an insurance company in the case of fraud (which is the usual source of the problems that you are talking about). There really isn't any franchise value in the failed institution, because nobody is willing to buy it. In fact, in the period around 1990 to 2006, of all resolutions, practically all the payout ones were results of fraud (at least in the United States). Payouts take longer and practically destroy the franchise value of the failed institution. Quite simply, there aren't really any assets that can be repossessed by the insurance system.

Rather, I would see this as a matter that could be pursued by the shareholders, creditors, and uninsured depositors (I'm going to use the word stakeholders hereinafter) via the courts. There simply aren't financial assets which can be liquidated to reimburse stakeholders. The main form of deterrence against fraud is basically criminal law.

EDIT: If you're not talking about fraud, I have no idea what you mean by misconduct. Insofar as misconduct is completely undefined and extremely ambiguous, I'm unwilling to put it in the proposal. There are a lot of actions, for example, ignoring your risk management team, that some would consider misconduct in hindsight, but should not actually be illegal due to issues with universalisability of such a rule.

[Bananaistan]

"That's all very nice but is merely a distraction (or deliberate obfuscation) of the fact that this gives carte blanche to reckiless bankers to gamble the WA's money. The surest way to get bankers to make foolish and reckless decisions is to issue blanket guarantees such as the one presented here. That this guarantee is backed by the financial might of the WA is the cherry on top."

[Imperium Anglorum]

"That's all very nice but is merely a distraction (or deliberate obfuscation) of the fact that this gives carte blanche to reckiless bankers to gamble the WA's money. The surest way to get bankers to make foolish and reckless decisions is to issue blanket guarantees such as the one presented here. That this guarantee is backed by the financial might of the WA is the cherry on top."

Elaborate. I'm not sure whether this is misunderstanding the difference between liability and equity or criticising the (untrue) lack of regulatory authority.

[Bananaistan]

"... the Fund ... may borrow from the World Assembly General Fund the necessary money to achieve its mandate."

Moral hazard.

[Imperium Anglorum]

"... the Fund ... may borrow from the World Assembly General Fund the necessary money to achieve its mandate." Moral hazard.

What do you think moral hazard is?

[The Macaronesia]

Francisco Clavijo
Representative of the Republic of the Macaronesia at the World Assembly

Dear representative,

I want to thank you the time you are spending in taking into account our proposals, studying them and answering with such wide expositions.

On fraud, my proposal wanted to delimit precisely how the Fund could manage those situations. On one hand you have fraud or disloyal management as a chain of decissions which are taken to obtain an unfair enrichment at the expense of the Fund, the Nation, the business, its stakeholders, customers, providers or competence. On the other hand, a bankruptcy caused by a negligent management can be condemned, but not considered as fraud.

More concretely, the proposal does not give the Fund confiscation powers, but permits it to init a judicial cause based on a verdict which determines the bankruptcy could have been avoided by not permorming such fraudulental management. Also, the claim may not be for the whole resolution costs, but for a portion depending on the gravity of the fraud.

Not including this proposal makes the question remaining under the competence of every member Nation, which means countries that do not implement this provision would have to force their IDI's to support a higher cost, and would be a discrimination among fair managed IDI's and those which had been managed in a fraudulental manner, understanding fraud as I previously mentioned. This could be cumbersome for foreing banks operating in a higher-costs market.

So if a Nation has a wide historial of fraud management which increases insurance costs, fair managed IDI's shall support higher costs despite their had been respectful with business legislation.

I want to point that current draft seems enough good to us, but we would be more satisfied with more ambitious provisions on sharing responsibilities in case of fraud. Nevertheless, if our proposal is not incorporated we shall vote for the resolution, but my Nation shall go further in such questions and, if necessary, shall regulate bank sector to prevent disloyal competence in our territory.

Let me respectfully appreciate your efforts in this draft and thank you for the opportunity of having this fascinating debate.

[Bananaistan]

"... the Fund ... may borrow from the World Assembly General Fund the necessary money to achieve its mandate." Moral hazard.

What do you think moral hazard is?

You hardly need to me to explain it!

You propose to put the WA General Fund as the ultimate guarantor of every bank in every WA member state. What could possibly go wrong?

[Imperium Anglorum]

You propose to put the WA General Fund as the ultimate guarantor of every bank in every WA member state. What could possibly go wrong?

Banana, the only way I can engage with your claim is if you actually tell me what it is and then tell me why you believe that claim is true. What mechanism causes this moral hazard to exist? What do you mean by moral hazard? Perhaps uncharitably, I can believe that my banking research colleagues are using the term correctly, I'm not so sure about here. How are you modelling the behaviour of firms and depositors?

---

(Image)

Francisco Clavijo
Representative of the Republic of the Macaronesia at the World Assembly

Dear representative,

I want to thank you the time you are spending in taking into account our proposals, studying them and answering with such wide expositions.

On fraud, my proposal wanted to delimit precisely how the Fund could manage those situations. On one hand you have fraud or disloyal management as a chain of decissions which are taken to obtain an unfair enrichment at the expense of the Fund, the Nation, the business, its stakeholders, customers, providers or competence. On the other hand, a bankruptcy caused by a negligent management can be condemned, but not considered as fraud.

More concretely, the proposal does not give the Fund confiscation powers, but permits it to init a judicial cause based on a verdict which determines the bankruptcy could have been avoided by not permorming such fraudulental management. Also, the claim may not be for the whole resolution costs, but for a portion depending on the gravity of the fraud.

Not including this proposal makes the question remaining under the competence of every member Nation, which means countries that do not implement this provision would have to force their IDI's to support a higher cost, and would be a discrimination among fair managed IDI's and those which had been managed in a fraudulental manner, understanding fraud as I previously mentioned. This could be cumbersome for foreing banks operating in a higher-costs market.

So if a Nation has a wide historial of fraud management which increases insurance costs, fair managed IDI's shall support higher costs despite their had been respectful with business legislation.

I want to point that current draft seems enough good to us, but we would be more satisfied with more ambitious provisions on sharing responsibilities in case of fraud. Nevertheless, if our proposal is not incorporated we shall vote for the resolution, but my Nation shall go further in such questions and, if necessary, shall regulate bank sector to prevent disloyal competence in our territory.

Let me respectfully appreciate your efforts in this draft and thank you for the opportunity of having this fascinating debate.

I don't know what provision you're talking about or what proposal we're talking about because these confiscation powers don't appear in the proposal, under such a term. If you mean to say that risk is being priced poorly, see section 2(a).

[Bananaistan]

OOC: Here for example, particularly this paragraph:

The financial crisis of 2008 was, in part, due to unrealistic expectations of financial institutions. By accident or design - or a combination of the two - large institutions engaged in behavior where they assumed the outcome had no downside for them. By assuming the government would opt as a backstop, the banks actions were a good example of moral hazard and behavior of people and institutions who think they are given a free option.

[Imperium Anglorum]

So is there a difference between depositors, firm managers, and equity shareholders? Or if we had insurance against backpay not paid to workers due to bankruptcy, would that also be 'moral hazard'? What mechanism causes the moral hazard to exist in this instance, not in the instance of monies being paid to the actors which took the risky actions? That is, why is the analogy applicable?

[Bananaistan]

OOC: Much RL evidence is that "firm managers" (is this some euphemism for bankers?) play hard and fast with other people's cash when they know the government will step in if everything goes tits up. I'm unaware of similar evidence that many businesses are going bankrupt merely because they have insurance for backpay.

[Imperium Anglorum]

OOC: Much RL evidence is that "firm managers" (is this some euphemism for bankers?) play hard and fast with other people's cash when they know the government will step in if everything goes tits up. I'm unaware of similar evidence that many businesses are going bankrupt merely because they have insurance for backpay.

To whom is the money given when the government bails out a firm?

[The Macaronesia]

(Image)

Francisco Clavijo
Representative of the Republic of the Macaronesia at the World Assembly

Dear representative,

I want to thank you the time you are spending in taking into account our proposals, studying them and answering with such wide expositions.

On fraud, my proposal wanted to delimit precisely how the Fund could manage those situations. On one hand you have fraud or disloyal management as a chain of decissions which are taken to obtain an unfair enrichment at the expense of the Fund, the Nation, the business, its stakeholders, customers, providers or competence. On the other hand, a bankruptcy caused by a negligent management can be condemned, but not considered as fraud.

More concretely, the proposal does not give the Fund confiscation powers, but permits it to init a judicial cause based on a verdict which determines the bankruptcy could have been avoided by not permorming such fraudulental management. Also, the claim may not be for the whole resolution costs, but for a portion depending on the gravity of the fraud.

Not including this proposal makes the question remaining under the competence of every member Nation, which means countries that do not implement this provision would have to force their IDI's to support a higher cost, and would be a discrimination among fair managed IDI's and those which had been managed in a fraudulental manner, understanding fraud as I previously mentioned. This could be cumbersome for foreing banks operating in a higher-costs market.

So if a Nation has a wide historial of fraud management which increases insurance costs, fair managed IDI's shall support higher costs despite their had been respectful with business legislation.

I want to point that current draft seems enough good to us, but we would be more satisfied with more ambitious provisions on sharing responsibilities in case of fraud. Nevertheless, if our proposal is not incorporated we shall vote for the resolution, but my Nation shall go further in such questions and, if necessary, shall regulate bank sector to prevent disloyal competence in our territory.

Let me respectfully appreciate your efforts in this draft and thank you for the opportunity of having this fascinating debate.

I don't know what provision you're talking about or what proposal we're talking about because these confiscation powers don't appear in the proposal, under such a term. If you mean to say that risk is being priced poorly, see section 2(a).

All mentions to 'the provision' is about what I included in my second proposal. Obviously there aren't provisions on confiscation in your draft because the Fund does not have recognized any trial action to recover costs of resolution. What I was to explais my proposal isn't neither a confiscation procedure, but a way to not to block a trial action against fraud management of IDI's.

[Bananaistan]

OOC: Much RL evidence is that "firm managers" (is this some euphemism for bankers?) play hard and fast with other people's cash when they know the government will step in if everything goes tits up. I'm unaware of similar evidence that many businesses are going bankrupt merely because they have insurance for backpay.

To whom is the money given when the government bails out a firm?

OOC: Irrelevant.

[Imperium Anglorum]

To whom is the money given when the government bails out a firm?

OOC: Irrelevant.

I think it's very important. Transfers made to people who are not in the decision-making process would break the assumed mechanism that the firm-owners do not bear the consequences of their actions. Warrant this claim.