Collusion and the Banking Structure of a Duopoly

The author shows that, in credit relationships, the choice of a lender may become a determinant of the extent of competition in downstream industries. In the presence of imperfect output markets and asymmetric information in financial markets, members of an industry may achieve a partial collusion in the output market by borrowing from the same bank. In an oligopoly, debt is procompetitive as it gives incentives to the borrowing firm to undertake an aggressive output strategy. As both firms borrow, the industry becomes more competitive and riskier. The firms' debt value is decreased. A common lender can better control these incentive effects and hence limit the extent of competition in the output market.