Deposit Insurance and the Discount Window: Pricing under Asymmetric Information



    Search for more papers by this author
    • Department of Finance, University of Illinois at Chicago. Support from Northwestern University's Banking Research Center is gratefully acknowledged. The comments of Stuart Greenbaum, Kazuhiro Igawa, Paul Kasril, Robert Laurent, and the participants at Wharton's Money and Banking Seminar are appreciated. An earlier draft was written while I was a Visiting Scholar at the Federal Reserve Bank of Chicago. The excellent research environment provided by Karl Scheld is appreciated.


The risk-sensitive pricing of deposit insurance and the discount window is determined in an environment where banks have private information concerning their financial conditions. The two facilities are managed jointly; an incentive-compatible policy is designed such that banks' choice of terms at which they can obtain insurance and access to discount window credit will reveal their asset quality. The function of the discount window is to be a risk-neutral “lender of last resort” to banks in a market dominated by risk-averse depositors.