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Competition and Entry in Banking: Implications for Stability and Capital Regulation

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  • Arnoud W.A. Boot

    ()
    (Faculty of Economics & Econometrics, Universiteit van Amsterdam)

  • Matej Marinc

    ()
    (University of Ljubljana)

Abstract

We assess the influence of competition and capital regulation on the stability of the banking system. We particularly ask two questions: i) how does capital regulation affect (endogenous) entry; and ii) how do (exogenous) changes in the competitive environment affect bank monitoring choices and the effectiveness of capital regulation? Our approach deviates from the extant literature in that it recognizes the fixed costs associated with banks' monitoring technologies. These costs make market share and scale important for the banks' cost structures. Our most striking result is that increasing (costly) capital requirements can lead to more entry into banking, essentially by reducing the competitive strength of lower quality banks. We also show that competition improves the monitoring incentives of better quality banks and deteriorates the incentives of lower quality banks; and that precisely for those lower quality banks competition typically compromises the effectiveness of capital requirements. We generalize the analysis along a few dimensions, including an analysis of the effects of asymmetric competition, e.g. one country that opens up its banking system for competitors but not vice versa.

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Bibliographic Info

Paper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 06-015/2.

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Date of creation: 27 Jan 2006
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Handle: RePEc:dgr:uvatin:20060015

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Web page: http://www.tinbergen.nl

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Keywords: Banking; Capital regulation; Competition;

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References

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  1. Thorsten Beck, 2007. "Bank Concentration and Fragility. Impact and Mechanics," NBER Chapters, National Bureau of Economic Research, Inc, in: The Risks of Financial Institutions, pages 193-234 National Bureau of Economic Research, Inc.
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  15. Boot, Arnoud W A & Thakor, Anjan, 1997. "Can Relationship Banking Survive Competition?," CEPR Discussion Papers, C.E.P.R. Discussion Papers 1592, C.E.P.R. Discussion Papers.
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Citations

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Cited by:
  1. Besancenot, Damien & Vranceanu, Radu, 2011. "Banks' risk race: A signaling explanation," International Review of Economics & Finance, Elsevier, Elsevier, vol. 20(4), pages 784-791, October.
  2. Lehner, Maria & Schnitzer, Monika, 2006. "Entry of Foreign Banks and their Impact on Host Countries," CEPR Discussion Papers, C.E.P.R. Discussion Papers 5954, C.E.P.R. Discussion Papers.
  3. Eric Van Tassel, 2009. "Sharing credit information under endogenous costs," Working Papers, Department of Economics, College of Business, Florida Atlantic University 09004, Department of Economics, College of Business, Florida Atlantic University.
  4. VanHoose, David, 2007. "Theories of bank behavior under capital regulation," Journal of Banking & Finance, Elsevier, Elsevier, vol. 31(12), pages 3680-3697, December.
  5. Claudia M. Buch & Gayle L. DeLong, 2008. "Banking Globalization: International Consolidation and Mergers in Banking," IAW Discussion Papers, Institut für Angewandte Wirtschaftsforschung (IAW) 38, Institut für Angewandte Wirtschaftsforschung (IAW).

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