Bank Competition: Measurement, Decision-Making, and Risk-Taking
68 Pages Posted: 30 Jun 2014 Last revised: 5 Jan 2016
Date Written: December 1, 2015
This paper investigates whether greater competition increases or decreases individual bank and banking system risk. Using a new text-based measure of competition, and an instrumental variables analysis that exploits exogenous variation in bank deregulation, we provide robust evidence that greater competition increases both individual bank risk and a bank’s contribution to system-wide risk. Specifically, we find that higher competition is associated with lower underwriting standards, less timely loan loss recognition, and a shift towards non-interest revenue. Further, we find that higher competition is associated with higher stand-alone risk of individual banks, greater sensitivity of a bank’s downside equity risk to system-wide distress, and a greater contribution by individual banks to downside risk of the banking sector.
Keywords: banking, competition, stability, financial statement analysis, regulation, contracting, timely loss recognition
JEL Classification: G2, H32, L00, M4
Suggested Citation: Suggested Citation