Liquidity And Deposit Insurance: The Case Of Deposit-Taking Microfinance Institutions In Low-Income Sub-Saharan Africa

Abstract

The objective of this study was to examine the relationship between liquidity and deposit insurance of Deposit-taking Microfinance Institutions (DTMFIs) in Low-Income Sub-Saharan Africa (LISSA). Several DTMFIs in the region defaulted in meeting withdrawals on deposits and collapsed with depositors’ funds. The failure of DTMFIs to be liquid has dire consequences such as contagion risk due to the sudden and unexpected deposit runs and oblivion of depositors’ funds, which further condemn the small savers into extreme poverty levels. Panel data from the Microfinance Information Exchange for the years 2006 to 2017 of 64 DTMFIs sampled across 18 LISSA countries was utilised. The estimated random effects results showed that explicit deposit insurance is positive and significantly related to liquidity. Additionally, the capital adequacy ratio and the Basel implementation dummy are positive and significant determinants of liquidity. The study concluded that designing and implementing explicit deposit insurance schemes mitigates liquidity risk in depository microfinance and maintaining adequate capital adequacy levels and implementation of Basel recommendations improves the liquidity positions of the LISSA DTMFIs. The study recommended formulation of deposit insurance policies that embrace microfinance deposits of all types and adherence to the Basel capital adequacy standards complements deposit protection in hedging liquidity risk.