How does competition impact bank risk-taking?

Gabriel Jimenez, Jose Lopez and Jesús Saurina

No 2007-23, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: A common assumption in the academic literature and in the actual supervision of banking systems worldwide is that franchise value plays a key role in limiting bank risk-taking. As the underlying source of franchise value is assumed to be market power, reduced competition has been considered to promote banking stability. Boyd and De Nicolo (2005) propose an alternative view where concentration in the loan market could lead to increased borrower debt loads and a corresponding increase in loan defaults that undermine bank stability. Martinez-Miera and Repullo (2007) encompass both approaches by proposing a nonlinear relationship between competition and bank risk-taking. Using unique datasets for the Spanish banking system, we examine the empirical nature of that relationship. After controlling for macroeconomic conditions and bank characteristics, we find that standard measures of market concentration do not affect the ratio of non-performing commercial loans (NPL), our measure of bank risk. However, using Lerner indexes based on bank-specific interest rates, we find a negative relationship between loan market power and bank risk. This result provides evidence in favor of the franchise value paradigm.

Keywords: Bank; competition (search for similar items in EconPapers)
Date: 2007
New Economics Papers: this item is included in nep-ban, nep-com and nep-cse
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Citations: View citations in EconPapers (72)

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Working Paper: How Does Competition Impact Bank Risk-Taking? (2010)
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