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The Geneva Papers on Risk and Insurance Theory

, Volume 23, Issue 2, pp 139–149 | Cite as

Government Deposit Insurance and the Diamond-Dybvig Model

  • J. Huston McCulloch
  • Min-Teh Yu
Original Paper

Abstract

The apparent banking market failure modeled by Diamond and Dybvig [1983] rests on their inconsistently applying their “sequential servicing constraint” to private banks but not to their government deposit insurance agency. Without this inconsistency, banks can provide optimal risk-sharing without tax-based deposit insurance, even when the number of “type 1” agents is stochastic, by employing a “contingent bonus contract.” The threat of disintermediation noted by Jacklin [1987] in the nonstochastic case is still present but can be blocked by contractual trading restrictions. This article complements Wallace [1988], who considers an alternative resolution of this inconsistency.

Keywords

deposit insurance bank runs Diamond-Dybvig model market failure 

Copyright information

© The Geneva Association 1998

Authors and Affiliations

  • J. Huston McCulloch
    • 1
  • Min-Teh Yu
    • 2
  1. 1.Department of Economics and FinanceThe Ohio State UniversityColumbus
  2. 2.Department of FinanceNational Central UniversityChung-LiTaiwan

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