If the last decade has taught us anything, it’s that banks aren’t immune to failure. But while those who follow the news have seen the collapse of several financial institutions, most of us still never consider what might happen if the bank that holds our money fails.
South Africans have few safeguards, compared to some of their international peers. South African depositors, for example, have no guarantee that if the bank that holds their savings collapses, they won’t lose everything held within. Sure, there’s always the potential for another bank to step in and, in the past, government has offered last minute bail outs, but that doesn’t mean it will again in the future.
Which is why, earlier this year, the South African Reserve Bank (SARB) announced the proposal for a deposit insurance plan, a mechanism to ensure that customer deposits are safe in the event that a bank fails.
Dr Co-Pierre Georg, a senior lecturer at the African Institute of Financial Markets and Risk Management at UCT, says the SARB is proposing the deposit insurance scheme to safeguard both consumers and the country’s economy as a whole.
“The Reserve Bank has always had a very close eye on the banks, and the banking supervision and financial stability departments have done a great job in spotting trouble ahead of time,” says Georg. “The obvious exception lately was African Bank, but even before that, people at the SARB and Treasury have realised that a deposit insurance scheme can make a contribution to safeguard financial stability.”
Given the benefits to consumers and maintaining a stable economy, one might wonder why such a scheme hasn’t been introduced before now. In the past, though, banks and regulators have been unable to agree on how deposit insurance would work and who would ultimately foot the lion’s share of the bill for it.
The model proposed in the current documents suggests that deposit amounts up to R100 000 will be covered by the scheme. The SARB’s figures suggest that 87% of accounts in the country hold less than R10 000, and that the total amount held in deposits covered by the insurance is around R348-billion. To work, the fund would need access to about 5% of that figure.
The question of how that money is raised is still to be fully hammered out with the banks, however.
“There is no real downside, besides that banks might be tempted to pass the cost of deposit insurance on to their customers,” says George. “However, since fintech startups are putting more and more competitive pressure onto the banks, the potential for this pass-through is limited.”
Licence to fail?
Some have raised questions that deposit insurance raises a moral issue and may cause some banks to behave recklessly. The argument is that financial institutions may not guard against risk because the consequences of doing so are covered by the deposit insurance plan. Georg believes, though, that this outlook is based on a flawed understanding of corporate governance. “When a bank fails, it is not only the depositors who suffer losses, but also the employees and managers of the bank. Deposit insurance would protect the depositors, but not the managers, who would lose their bonuses, stock options and, in the worst cases, even parts of their retirement savings,” he says. “Bank managers have every incentive to try to prevent a bank from defaulting, irrespective of whether the depositors are protected or not.”
Once the deposit insurance plan is implemented, it would become compulsory for all registered banks. Applicants for new banking licences would also need to be compliant.