How can the regulators reduce the effects of moral hazard in the absence of depositor discipline?

Question

Quizplus · Accepted Answer

By charging both explicit and implicit premiums on DIs, the regulators can incentivize the DIs to act more prudently and minimize the moral hazard problem. Explicit deposit insurance premiums can be charged based on the risk level of DIs, and implicit premiums can be charged through regulatory requirements such as higher capital adequacy ratios. This can mitigate the DIs' incentive to take excessive risks and improve their risk management practices. Basing deposit insurance premiums on deposit size (option B) may not necessarily reduce moral hazard as it does not necessarily address the risk-taking behavior of DIs. Option A is not a viable solution as it increases the risk level of the DIs, exacerbating the moral hazard problem. Option D, exhibiting excessive capital forbearance, refers to regulators allowing DIs to operate with inadequate capital levels, and may worsen the moral hazard problem by incentivizing DIs to take greater risks.

How Can the Regulators Reduce the Effects of Moral Hazard