The failure of domestic food prices to decline in line with trends abroad in recent months is a case in point and suggests the presence of market imperfections. The harmful effect of such  7  A similar analysis is presented by Papademos, Lucas, Determinants of growth and the role of structural reforms and macroeconomic policies in Europe, a speech delivered at the 2004 Ludwig Erhard Lecture on the State of the European Economy at the Lisbon Council’s Board of Economists in December 2004 and in a box entitled Labour utilization and economic convergence, published in the Central Bank of Malta, Quarterly Review 2008:2, pages 46-48. 4  BIS Review 60/2009  rigidities is magnified when nominal wages are partly indexed to consumer prices, as they are in Malta, because temporary price shocks can lead to permanent wage and price deviations from the euro area average. The wage determination process must, therefore, give equal importance to achieving offsetting gains in productivity in order not to jeopardize competitiveness and employment creation. This is a vital requirement because Malta is already at a disadvantage given that since 2000 unit labour costs have risen by some 22% compared with an average of 15% in the euro area. Failure to maintain low levels of inflation is also detrimental in the short term. Consumers in several euro area economies are currently experiencing increases in real purchasing power as a result of falling price levels.
6  BIS Review 62/2008  Many schemes rely on a mutual responsibility, where the remaining banks will come up with the financing to cover the insured depositors of a failed bank, in some cases relying on a fund which has been built up in advance. This works fine as long as it is only small banks that suffer problems. However, if a larger bank is affected, there is a risk that the problems will spread as other banks are forced to contribute substantial funds from their own balance sheets. Given that many markets are very concentrated, with a few banks dominating the market, the failure of the largest banks will be difficult to finance in these kinds of mutual systems. Particularly vulnerable are the kind of small private schemes which rely solely on the remaining banks coming up with money after a failure. The deposit guarantee can then rather become a destabilising factor without the problem bank necessarily needing to be a particularly important actor in the payment system or on the financial markets. Clearly, you want to avoid a situation where government intervention may be necessary simply because of a poorly designed deposit guarantee system. A solution to the problem was put forward in a Swedish government enquiry a few years ago. The trick is to make the banks internalise the cost of the guarantee not at the industry level, but at the level of the individual bank.