DOES DEPOSIT INSURANCE INDUCE A MORAL HAZARD? AN EMPIRICAL STUDY OF CREDIT UNIONS IN THE STATE OF MINAS GERAIS

The deposit insurance mechanism aims to create safety and liquidity in the financial system, but paradoxically, it may generate instability in the system, due to the problem of a moral hazard. The conflicting interests of the parties, coupled with imperfect monitoring, may induce financial institutions under the protection of deposit insurance to be exposed to more risk than recommended by the fund manager. From this perspective, the present study tested the hypothesis that the Deposit Guarantee Fund (DGF) does not induce a moral hazard, according to a panel composed by 62% of credit unions in the state of Minas Gerais affiliated to the "Sicoob-Crediminas" system from January 1995 to May 2008. Various model specifications were tested in a panel using six proxies to measure the degree of risk exposure of the cooperatives in accordance with international literature. Based upon results obtained, the best adjustment was for the models of fixed effects estimated by Feasible Generalized Least Squares. Based upon results of model estimations, it was not possible to reject the hypothesis that the DGF did not induce a moral hazard.