Deposit Insurance and Depositor Discipline: Direct Evidence on Bank Switching Behavior in Japan

As Japan's financial system moves toward a more market oriented one, depositor discipline is expected to play a larger role in the monitoring of the country's banks. Relying on detailed survey data on households' bank switching behavior matched with banks' financial data, we examine households' response to bank risk and different deposit insurance schemes. We find that bank switching in response to risk was more frequent in 2001 than in 1996 and that households' choice of bank provides an adequate reflection of banks' financial health. We also examine the determinants of households' knowledge of the deposit insurance scheme and find that income, the amount of households' financial assets, and educational attainment are all significant factors. What is more, households' extent of knowledge regarding the deposit insurance scheme was an important determinant of bank switching behavior. The results suggest that depositor discipline appears to work and could play an important supplementary role in monitoring the banking sector.