Abstract

The array of empirical studies has highlighted the influence of bank competition on financial stability, credit growth, and the regulatory drivers of competition in banking markets. This study attempts to contribute to research related to the role of bank competition on bank risk-taking by examining two competing views - the traditional “competition-fragility” view and the “competition-stability” view.

The Philippines does not have official measures of bank competition. Our approach in the study is to first construct measures of bank competition based on market power from a unique dataset of balance sheet and income statements for 542 banks operating in the Philippines from March 2010 to December 2020. These measures include the H-Statistic, Lerner Index, and the Boone Indicator. The paper then estimates the impact of these competition measures on solvency risk or the risk of being unable to absorb losses with the available capital across universal bank, thrift bank, and rural/cooperative bank industries.

The study reveals important findings. First, at the industry level, bank competition reduces solvency risk. Specifically, the Boone Indicator which measures efficiency, has the biggest impact on solvency risk among the measures of bank competition. These findings imply that the impact of competition on bank risk depends crucially on the underlying individual bank risk. Second, cost efficiency plays a significant role in reducing bank risk and improving stability and on bank competition across industries. Third, the relationship between competition and risk is sensitive to other bank-specific characteristics and macroeconomic factors related to the extent of diversification strategy, funding source, capitalization and real GDP growth. Fourth, the findings show the positive and significant impact of changes in the physical banking network on bank risk for bigger universal banks and negative for thrift and rural/cooperative banks. Fifth, the study initially finds that the pandemic has increased bank risk across banking industries.