# **1. Introduction**

Private decisions in finance confront tradeoffs, most notably that of risk and return. Policy decision making in the area of financial development is faced with similar tradeoffs, notably that between financial development and financial stability.<sup>1</sup> However, not only tradeoffs exist in financial policy making. While prudential limits exist in extending access to credit, because not everyone is creditworthy or can handle credit responsibly—as we have learned most recently from the global financial crisis—a prudential limit may not exist for advancing access to deposits or insurance (Cull et al., 2012). Hence, synergies can also be found and exploited. Financial policy reforms may thus focus on synergies first, i.e. advancing financial development and improving financial sector resilience at the same time. We study one such possible synergy in this paper; namely, the positive effect that greater financial inclusion in deposits can have on greater reliability of bank deposit funding in times of stress.

From 2006 to 2009, growth of bank deposits dropped by over 12 percentage points globally. The most affected by the 2008 global crisis were upper middle income countries that experienced a drop of 15 percentage points on average. Individual countries such as Azerbaijan, Botswana, Iceland, and Montenegro switched from deposit growth of 58 percent, 31 percent, 57 percent, and 94 percent in 2007 to deposit declines (or a complete stop in deposit growth) of -2 percent, 1 percent, -1 percent, -8 percent in 2009, respectively.

In times of financial stress or crises, depositors get anxious, can run on banks, and withdraw their deposits (Diamond and Dybvig, 1983; Shin, 2009). Large depositors are usually the first ones to run (Huang and Ratnovski, 2011). By the law of large numbers, correlated deposit withdrawals could be mitigated if bank deposits are more diversified. Greater diversification of deposits could be achieved by enabling a broader access to and use of bank deposits, i.e. involving a greater share of adult population in the use of bank deposits (financial inclusion). Based on this assumption, broader financial inclusion in bank deposits could significantly improve resilience of banking sector funding and thus overall financial stability (Cull et al., 2012).

This paper investigates the implications of a _broader_ access to deposits for the _dynamics_ of bank deposits during the global financial crisis. Namely, we analyze whether access to bank deposits by a larger share of a country’s population can help explain differences in the drop of deposit growth over 2007-2010 across our sample of 95 countries. We also separately estimate the differences in the relationship between the drop in deposit growth and access to deposits for low-income (LIC), middle-income (MIC), and high-income (HIC) countries. The employed proxies for access to and use of deposits are based on Honohan (2008) and Demirguc-Kunt and

> 1 <mark>See for example the IMF-World Bank conference on Financial Deepening, Macro-Stability, and Growth in Developing Countries:</mark> <u><mark>http://www.imf.org/external/np/seminars/eng/2012/spr/.</mark></u> <mark>Also, see Buncic and Melecky (2013) discuss equilibrium provision of credit to the real economy—that is not too much not too little credit—or Beck and De Jonghe (2013) who discuss the potential tradeoff between diversification of individual banks and diversity of banking systems.</mark>

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