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On the Relationship between Market Concentration and Bank Risk Taking

Author

Listed:
  • Kaniska Dam

    (CIDE)

  • Marc Escrihuela-Villar

    (Universitat de les Illes Balears)

  • Santiago Sánchez-Pagés

    (Edinburgh School of Economics)

Abstract
We 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 in 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 concentration is low, banks invest in the gambling asset. On the other hand, for sufficiently high levels of market concentration, 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.

Suggested Citation

  • Kaniska Dam & Marc Escrihuela-Villar & Santiago Sánchez-Pagés, 2009. "On the Relationship between Market Concentration and Bank Risk Taking," DEA Working Papers 36, Universitat de les Illes Balears, Departament d'Economía Aplicada.
    • Handle: RePEc:ubi:deawps:36
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Market concentration; Bank mergers; Risk-taking;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets

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