Effect of the Equity Capital Ratio on the Relationship between Competition and Bank Risk-Taking Behavior

Abstract We examine how the relationship between competition and risk-taking changes with the ex ante bank equity capital ratio. We show that competition in the banking market, on average, mitigates risk-taking by banks. This relationship, however, can be altered by a bank’s ex ante equity capital r...

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Bibliographic Details
Published in:The Review of Corporate Finance Studies 2021-12, Vol.10 (4), p.813-855
Main Authors: Hao, Jia, Zheng, Kuncheng
Format: Article
Language:English
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Summary:Abstract We examine how the relationship between competition and risk-taking changes with the ex ante bank equity capital ratio. We show that competition in the banking market, on average, mitigates risk-taking by banks. This relationship, however, can be altered by a bank’s ex ante equity capital ratio. More specifically, when face with increased competition, banks with low ex ante equity capital ratios engage in relatively larger reductions in risk-taking. They do so primarily by decreasing the risk in their lending portfolios. In contrast, banks with high enough ex ante equity capital ratios might not reduce their risk-taking at all. (JEL G21, G32, O16, D40, G18)
ISSN:2046-9128
2046-9136
DOI:10.1093/rcfs/cfab009