On the Relationship between Market Power and Bank Risk Taking
AbstractWe analyse risk-taking behaviour of banks in the context of spatial competition. Banks mobilise unsecured deposits by offering deposit rates, which they invest either in a prudent or a gambling asset. Limited liability along with high return of a successful gamble induce moral hazard at the bank level. We show that when the market power is low, banks invest in the gambling asset. On the other hand, for sufficiently high levels of market power, all banks choose the prudent asset to invest in. We further show that a merger of two neighboring banks increases the likelihood of prudent behaviour. Finally, introduction of a deposit insurance scheme exacerbates banks’ moral hazard problem.
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Bibliographic InfoPaper provided by Scottish Institute for Research in Economics (SIRE) in its series SIRE Discussion Papers with number 2008-26.
Date of creation: 2008
Date of revision:
Other versions of this item:
- Kaniska Dam & Marc Escrihuela-Villar & Santiago Sanchez-Pages, 2009. "On the Relationship between Market Power and Bank Risk Taking," ESE Discussion Papers 187, Edinburgh School of Economics, University of Edinburgh.
- Kaniska Dam & Marc Escrihuela-Villar & Santiago Sánchez Pages, 2009. "On the Relationship between Market Power and Bank Risk Taking," Documentos de Trabajo DTE 459, CIDE, Division de Economia.
- D43 - Microeconomics - - Market Structure and Pricing - - - Oligopoly and Other Forms of Market Imperfection
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
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