Financial Intermediation, Competition, and Risk: A General Equilibrium Exposition
AbstractWe study a simple general equilibrium model in which investment in a risky technology is subject to moral hazard and banks can extract market power rents. We show that more bank competition results in lower economy-wide risk, lower bank capital ratios, more efficient production plans and Pareto-ranked real allocations. Perfect competition supports a second best allocation and optimal levels of bank risk and capitalization. These results are at variance with those obtained by a large literature that has studied a similar environment in partial equilibrium. Importantly, they are empirically relevant, and demonstrate the need of general equilibrium modeling to design financial policies aimed at attaining socially optimal levels of systemic risk in the economy.
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Bibliographic InfoPaper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 2010-67S.
Date of creation: 2010
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Web page: http://center.uvt.nl
General Equilibrium; Bank Competition; Market Power Rents; Risk;
Find related papers by JEL classification:
- D5 - Microeconomics - - General Equilibrium and Disequilibrium
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
This paper has been announced in the following NEP Reports:
- NEP-ALL-2010-08-21 (All new papers)
- NEP-BAN-2010-08-21 (Banking)
- NEP-BEC-2010-08-21 (Business Economics)
- NEP-COM-2010-08-21 (Industrial Competition)
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