Discussion of:

1
Discussion of Money and Modern Banking without
Bank Runs (D. Skeie)

• By Giovanni DellAriccia
• (IMF and CEPR)

2
The paper shows that

• Deposit insurance is not necessary to prevent
  liquidity runs in advanced economies.
• This contrasts with the classic Diamond-Dybvig
  multiple equilibria result.
• It is interesting from a normative point of view,
  since most deposit insurance schemes are in
  advanced economies.
• It is written as challenge to deposit insurance,
  but one could read it as in support (I do!)

3
Advanced economies need to meet several
conditions to avoid runs

• Deposits are nominal and in domestic currency.
• Well functioning good markets.
• Bank liabilities cannot be converted to domestic
  assets held outside banking system.
• There is a frictionless inter-bank market.
• Free-floating currency (or closed economy).

4
Nominal deposits / smooth good markets

• In Diamond-Dybvig deposits are real,
  non-contingent claims on banks assets
• Early withdrawals cannot be correctly priced at
  the margin.
• Quantities need to adjust ? rationing for late
  withdrawers.
• Potential inefficiency (liquidity runs)
• In this paper deposits are nominal claims
• Price adjustments on good markets make their real
  value contingent on mass of deposits withdrawn
  (De Nicolo, JME).
• Early withdrawals are correctly priced.
• First-best allocation is achieved (no runs).

5
No currency and smooth inter-bank market

• All transactions are settled within the banking
  system (this where advance vs. developing
  countries may matter)
• ? aggregate liquidity cannot be drained.
• ? inter-bank market is always liquid enough.
• In systems with more than one bank, informational
  asymmetries absent
• ? banks always willing to lend to solvent but
  illiquid institutions.

6
No role for foreign assets/goods

• Flexible exchange rate
• ? central bank will not drain liquidity by
  intervening.
• ? domestic price of foreign goods adjusts with
  mass of withdrawals (as long as current account
  needs to balance).

7
So, to bring the runs back ...

• Make real value of deposits non-contingent on
  withdrawals.
• Get liquidity out of banking system.
• Stop inter-bank lending.

8
These may do (and some are actually out there)

• Fixed exchange rate regime.
• Sticky prices (?) Inelastic import prices (?)
• Off-shore market for deposits.
• Storage of currency outside banking system.
• Frictions in the inter-bank market.
• Asymmetric information across banks.

9
Highly recommended read

• Very interesting and well-written paper.
• Carefully modeled. Could benefit from some
  further discussion of foreign channel.
• Should have more open interpretation of results
  pro or contra deposit insurance?