Still Banking on the Market: A Comment on the Failure of Market Discipline

Abstract

Following the publication of my article Banking On the Market: Relying On Depositors to Control Bank Risks, I expected an immediate rejoinder from proponents of market discipline. Concern over the increased rate of bank failure and the inadequacy of the deposit insurance funds, as well as pressure for deregulation, were providing impetus for revival of the notion that the market for deposits could play a greater role in controlling bank risk. Yet no such reaction has taken place. Rather than moving to limit depositors' recovery in failing banks, the bank regulators have continued to arrange solutions that guarantee protection to all depositors. Moreover, bank runs by fearful depositors have continued to occur.