Estimating the cost of deposit insurance with stochastic interest rates: the case of Taiwan

This study measures the deposit insurance premium under stochastic interest rates for Taiwan's banks by applying the two-step maximum likelihood estimation method. The estimation results suggest that the current premiums-charging 5, 5.5, and 6 basis points per dollar of insured deposits-are too low, but largely reflect the rank orders of the risks of the insured banks. Moreover, the regression results indicate that asset volatility dominates bank size in determining the insurance premium. When the volatility risk is decomposed into two parts, credit risk significantly dominates interest-rate risk. An examination of bank characteristics indicates that privately owned old banks are more likely to have lower levels of credit risk, asset volatility, and deposit insurance premiums than state-owned banks and newly chartered banks.