Bank Competition and Financial Stability

We study versions of a general equilibrium banking model with moral hazard under either constant or increasing returns to scale of the intermediation technology used by banks to screen and/or monitor borrowers. If the intermediation technology exhibits increasing returns to scale, or it is relatively efficient, then perfect competition is optimal and supports the lowest feasible level of bank risk. Conversely, if the intermediation technology exhibits constant returns to scale, or is relatively inefficient, then imperfect competition and intermediate levels of bank risks are optimal. These results are empirically relevant and carry significant implications for financial policy.Financial stability;Banks;Economic models;competition, bank risk, market competition, banking, bank competition, bank profits, bank capital, deposit insurance, perfect competition, bankers, bank capitalization, degree of competition, bank intermediation, banking sector, bank profitability, banking model, bank problem, imperfect competition, bank risk taking, bank loan, bank risk-taking, banking industry, capital regulation, barrier to entry, banking systems, bank collects, bank regulation, bank size, bank finances, bank consolidation, banking system stability, banking crises, bank runs, probability of default, bank supervision, bank portfolio, bank stability, risk of bank failure, central banking, bank monitoring, banking system, prudential regulation, banker, bank ownership, banking market, bank failure, bank risks