Competition and Market Discipline in the Banking Industry of Emerging Market Economies

Given that ‘market discipline’ essentially embodies implicit regulation in ways that makes it theoretically more effective in efficient markets, we use data from twenty emerging markets to examine its effect on banking competition in the typically less than efficient emerging markets. Using a new set of market discipline constructs that reflect market discipline across both developed and emerging markets, and deploying panel data estimation, we find that market discipline – measured from the perspectives of external stakeholders, market activities, and representative overall market discipline conduct – is important in emerging markets. And these constructs appear to enhance competition in their banking markets, whereas a robustness check using subordinated debt activity as a proxy for market discipline rather enhances market power in emerging market banks. Furthermore, a comparative analysis using data from developed economy banks, shows the converse of the emerging economy results to be the case in developed economies, with overall results unsurprisingly showing that market discipline affects competition more (statistically and economically) in developed economy banks than in emerging economy banks. Like developed economy banks, emerging market banks operate under a monopolistic competitive market structure, with developed market banks being more competitive than emerging market banks. Basically, our main results suggest that emerging market banks should assess market discipline from different perspectives, as well as adapt globally-evolved policies to suit their context, so as to more likely elicit these policies’ desirable goals.