Research on the impact of bank competition on stability—Empirical evidence from 4631 banks in US

Abstract

This paper systematically analyzes the impact mechanism of bank competition on stability. We select the balanced panel data of 4,631 non-failure banks from 2002 to 2017 released by FDIC to do the estimation and then make an appraisal on bank competition with Lerner index and two kinds of Z-score to measure bank stability respectively. The 2SLS with fixed effect is applied for estimation. Our results suggest that: (1) Competition is a living environment for all industries and bank competition mainly affects stability through franchise value, the cost of borrowing and operating behavior. (2)According to the overall regression, we find that there is an inverted U-shaped relationship between bank competition and stability with an inflection point where the Lerner index is about 0.35. Generally, the US banking industry has always been in a state of excessive competition during the observed period. The further analysis of 3 stages indicates that excessive bank competition, an ‘invisible hand’, may be one of the most important factors triggering the financial crisis. (3) According to the regression on regions, the inverted U-shaped relationship between bank competition and stability is also existing and the inflection point of Lerner index is between 0.3 and 0.37. However, there is also some regional heterogeneity in terms of the degree of competition, the level of stability and the ability to resist risks and maintain stability when facing competition. This paper may help financial regulators and commercial banks formulate differentiate regulatory policies and business strategies so that banks can control risks better and enhance stability in different competitive environments.