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Reflection on the Role of Central Bank in Resolving Banking Crisis. Bank of Israel. Rony Hizkiyahu. European Banking & Financial Forum 2008 Prague, April 1-3. Causes of banking crisis or individual bank failure. Macro factors

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reflection on the role of central bank in resolving banking crisis
Reflection on the Role of Central Bank in Resolving Banking Crisis

Bank of Israel

Rony Hizkiyahu

European Banking & Financial Forum 2008

Prague, April 1-3

causes of banking crisis or individual bank failure
Causes of banking crisis or individual bank failure
  • Macro factors

Economic recession, Financial deregulation, Unsound supervisory system, Political issues

  • Non-macro factors

Unsound banking practices, Inappropriate risk management – liquidity risk, Lack of corporate governance, Embezzlement

resolution of crisis
Resolution of Crisis

The lesson of Walter Bagehot (1873) is still applicable:

in crisis lender of last resort should

lend freely, at a penalty rate, on the

basis of collateral that is marketable

in the ordinary course of business

when there is no panic.

high level principles for lender of last resort
High-Level Principles for Lender of Last Resort
  • Time is crucial.
  • Lender of last resort should lend to illiquid but not to insolvent institutions.
  • Lending only against collateral.
  • Lending at a penalty rate.
  • Lending is contingent with a recovery plan
  • Lending to the markets or lending to individual institutions?

Mitigate moral hazard

improvements proceeding banking crisis or failure
Improvements Proceeding Banking Crisis or Failure
  • Introduction of safe and sound banking practices.
  • Prompt corrective action.
  • Raising deposit insurance premium and/or adopting differential premium system.
  • Improved resolution method.
the israeli case
The Israeli Case
  • No major bank failures in the last 30 years.
  • No sub-prime mortgage market.
  • No systemic house price bubble.
  • Limited exposure to MBS.
  • No de jure deposit insurance.
  • The Bank of Israel established teams to improve prevention and resolution of crises.
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