Who coughs up if your bank folds?
If one of South Africa’s top banks collapsed tomorrow, would your money be protected?
The country has no insurances for depositors other than an “implicit” guarantee that the government, and ultimately the taxpayer, would rescue bank customers.
But this week the South African Reserve Bank and treasury released the details of a proposed deposit insurance scheme, detailing explicit cover intended to protect retail depositors, particularly the poorest and most vulnerable.
South Africa lags behind other countries in this regard.
In the past, the banking industry and regulators have been unable to agree on the implementation of a scheme because of concerns about the cost implications for the sector.
Concerns have also been raised over moral hazard – which in this case would amount to the failure by a bank to guard against risk when it is protected from its consequences, by insurance covering its depositors.
The deposit insurance scheme proposes cover of up to R100 000 for qualifying deposits per bank, and is intended primarily to cover retail depositors and the deposits of small and medium enterprises (SMEs).
This would cover the majority of citizens, although they represent a relatively small share of the total deposits in the banking sector, said Kuben Naidoo, deputy governor of the Reserve Bank and the registrar of banks. “While the coverage is relatively low in proportion to total banking assets covered, our job is to protect the poorest and most vulnerable depositors.”
The retail customer deposits would include current accounts and other accounts such as fixed-term deposits and notice accounts.
Deposits that would not be covered include deposits held by banks, and deposits held by the non-bank private financial sector, such as money market unit trusts, non-money market unit trusts, insurers, pension funds and fund managers.
The proposed scheme would also not cover government deposits, including those held by local, provincial and national government, public financial sector entities and the Public Investment Corporation.
Although the Reserve Bank had not taken a firm decision on how to implement the scheme, Naidoo said, it had tried to explore the best ways to introduce a deposit insurance scheme that aimed “to protect the fiscus without too big a hit on consumers and on the banking system over time”.
Naidoo estimated that it would take about two years to put in place.
Retail and SME deposits comprise about 60% of the total value of potentially qualifying deposits in the banking sector, according to the Reserve Bank’s discussion document. The rest consists of wholesale deposits.
In terms of numbers, deposits by retail and SMEs represent almost 100% of potentially qualifying deposits, with wholesale deposits representing a mere 0.13% of them.
In addition, about 87% of the qualifying depositors have deposits of less than R10 000, according to the Reserve Bank.
The Reserve Bank estimates that about 44.7-million deposits would qualify, although this number is inflated by the fact that depositors may have accounts with more than one bank. The total amount of covered deposits would be about R348-billion.
In the past, with no explicit insurance scheme in place, the government has compensated depositors case by case.
The Reserve Bank states that “implicit insurance is often perceived to be unlimited, which increases the implicit burden on government and the taxpayer”.
Nicola Brink, the Reserve Bank’s head of resolution planning, said there was a belief, based on past bank failures, that the government would step in to cover depositors.
“But implicit does not mean 100% coverage,” she said. Past bank failures involved small institutions and the government could afford to cover depositors.
The R100 000 level would not cover the top echelon of customers, because it would become “simply too expensive to cover everything”, she said. Those individuals were also more likely to hedge against risk in different ways, she added.
Most recently, South Africa saw the collapse of African Bank. With a comparatively small amount of deposits totalling R100-million, the Reserve Bank covered depositors’ losses.
Naidoo said there were technical difficulties with trying to introduce a deposit insurance scheme in a very mature banking system in such a way that it did not inflate the costs of the banking sector.
The Reserve Bank explored various options and proposes a partially prefunded scheme rather than a post-funded model. This is the most common approach for this kind of insurance, with a prefunding target of 5%, which amounts to about R17-billion of the total deposits covered.
The model requires the accumulation and maintenance of a deposit insurance fund to cover claims and related expenses before any bank failures occur.
The main objection to the model is the cost to banks, which means setting aside funds that may never be used.
But there are advantages, according to the Reserve Bank. These include that no public funds are required, even temporarily, to cover a bank failure; pay-outs to depositors can be done immediately, without parliamentary or any other form of government approval; failed banks would also have contributed to the scheme and the burden would not rest only on the surviving banks; and an increased sense of security for the public, knowing that there is money available to protect deposits.
“It is less convincing to try to explain to the general public a range of complicated post-failure funding mechanisms than to simply say that ‘the money is available’,” the Reserve Bank said.
Brink said the central bank believed 5% would be sufficient for most bank crises, except perhaps the failure of a very large bank. Then the authorities would have to rely on other available tools.
She said the deposit insurance scheme was just one of several tools and proposed legislative measures to deal with the collapse of a bank and “should not be seen in isolation”.
Other proposed tools include a bail-in mechanism to recapitalise a failed institution.
Details of the deposit insurance scheme are intended to be included in a Special Resolution Bill, which will outline the stabilisation powers available to the authorities.
To fund the deposit insurance, the Reserve Bank proposes a reduction in the statutory cash reserve from 2.5% to 2.0% of liabilities. This is the regulated minimum that banks must place with the central bank.
Based on December 2016 data, this would release about R18-billion, roughly equivalent to the 5% of covered deposits, according to the Reserve Bank.
Kokkie Kooyman, the portfolio manager of Denker Capital, said the proposed funding mechanism appeared innovative, potentially limiting the costs to banks. It would also ensure that taxpayers were “off the hook” in the event of a crisis and depositors would be covered.
But the industry still remains concerned about the costs. It was already incurring significant costs and was talking to the treasury and the Reserve Bank about the funding of the new proposed prudential regulator, said Cas Coovadia, the managing director of the Banking Association of South Africa.
Nevertheless, the industry recognised “the need for deposit insurance as a policy imperative in terms of moving the sector to the Twin Peaks framework”.
Coovadia acknowledged that the proposed change to the cash reserve requirement went a long way towards making deposit insurance as cost-effective as possible.
The association would still study the “nitty-gritty” of the technical details before it commented formally on the discussion document, he said.