Monetary Policy and Bank Concentration

Abstract

Examining how monetary policy affects bank concentration, we find that when the policy rate rises, banks operating in more competitive markets are more likely to be acquired or fail. The effect is more pronounced among banks with less market power, causing the banking sector to be dominated by fewer large banks over time. Consistent with the market power channel, the effect is driven by banks’ inability to pass the rate hikes to the asset side and being forced to pass to the liability side. We show that banks respond to rate hikes by seeking consolidation to gain market power.