Nexus Between Concentration and Fragility Across EU Banking Systems

Abstract

Abstract This study assesses the relationship between concentration and financial fragility in the EU banking systems between 2001 and 2009. We investigate if the idea of increasing competition in EU as a result of a single European market it fits with the issue of financial stability of the European financial system. We test the competition implications on financial stability during the crisis and pre-crisis period, too. We use as proxy for competition two structural indicators - Herfindahl-Hirschman Index (HHI) and the concentration rate of the top five largest banks (CR5). The banks’ financial stability is represented by Z-score. The model is estimated on a panel of 923 commercial banks from 27 countries members of European Union for the 2001–2009 periods. Because we work with a large number of cross-sections and a short times series, we will use Generalized Method of Moments (GMM) Dynamic Panel Data models. The results validate both views, depending on group of countries and pre-crisis /crisis period. In the case of CR5, all results are statistically relevant, less for the euro zone and, except for the new member states, increased concentration has a negative impact on financial stability, so it confirms the competition stability theory. The results for the Herfindahl-Hirschman Index (HHI) are statistically relevant only for the countries outside the euro zone and the new members and it is validated the competition-fragility vision: the greater the concentration in the system, measured by the HHI index (i.e. less competition), the higher the Z-score indicator, therefore the bank financial stability increases.