Bank Competition And Risk Taking Under Interest Rate Liberalization:Theory And Evidence

Since the cancellation of deposit interest rate cap in October 2015,the interest rate control in China is almost fully liberalized,the competition in banking industry is gradually changing.The intensified market competition and the enhanced competition strategy orientation make the transmission mechanism of banking competition to risk taking behavior gradually clear:spreads narrowed,competition intensified,credit risk enlarged.All these would influence the banks' risk taking behavior.If commercial banks cannot effectively manage risk,then they may fall into the trouble of bankruptcy,or even endanger the financial market stability and cause economic recession.Therefore,it is vital significant to study the relationship between bank competition and risk taking under interest rate liberalization.In this thesis,based on the background of interest rate liberalization in China,and combined partial equilibrium model with general equilibrium model,we examine the relationship between bank competition,individual risk taking and systemic risk taking from both the theoretical and empirical perspective.First of all,starting from the theoretical analysis,after retrospection on the development of the theory of interest rate liberalization,we elaborate the bank competition theory from the perspective of financial efficiency and financial stability,and then provide the explanations of the motivation,decision and governance of the banks' risk taking,and finally,analyze the reason behind banks' systemic risk taking,in order to systematically understand the link between,interest rate liberalization,bank competition and risk taking from theoretical angle,and lay the foundation of the following empirical studies.Secondly,after reviewing the advancement and development of the institution of interest rate liberalization in China,elaborate the effects of interest rate liberalization to commercial banks from five aspects,and then provide the descriptive statistical analysis of the competitive condition and risk-taking behavior of commercial banks under interest rate liberalization,reveal the trend of bank competition and risk taking under interest rate liberalization,and analyze the impact mechanism.Thirdly,construct the interest rate liberalization index(IRLI)and bank competition index(Lerner),to examine the relationship between banking competition and bank risk taking under the background of interest rate liberalization deepening in China.This chapter uses the threshold panel data model,empirically finds the correlation of bank competition and risk taking depends on the level of interest rate liberalization.When IRLI is lower than the threshold value,bank competition is negatively related to risk,"risk shifting effect" dominates "chart value effect";when IRLI is higher than the threshold value,the risk shifting effects weaken and.chart value effects gradually dominate.Therefore,while the interest rate liberalization gradually deepens,regulatory authority should grasp the moderate level of bank competition,and guide banks to normative and effective competition model.Fourthly,based on the previous chapter,discuss further the relationship between bank competition and systemic risk contribution of banks.The goal is to examine whether bank competition affects the systemic risk contribution of individual banks,as well as affecting banks' individual risk taking.After using SRISK to measure the systemic risk in the banking system,we find that with the deepening of interest rate liberalization,more severe bank competition though raises banks' individual risk taking,reduces contribution of banks to systemic risk in the whole system.Highlighting a dual relationship between the Lerner index and our two types of risk is not inconsistent.On the contrary,this result confirms that individual bank risk and systemic bank risk have two different dimensions and can mainly be explained by the franchise value paradigm.The willingness to reduce risk exposition when franchise value is high,as a result of bank market power,can take two forms:(1)a decrease of individual risk,as traditionally argued by the defenders of the "competition-fragility" view and(2)an increase of systemic risk contribution via an increase of correlation in risk.This can be a strategic choice in order to benefit from the "too-many-to-fail" guarantee.This can also simply be the result of reduction in portfolio risks by complete diversification,which induces less diversity in the system and more correlated institutions.Fifthly,we extend the discussion of the relationship between bank competition and bank risk taking into general equilibrium model,and introduce social welfare to examine the optimal degree of bank competition.The past theories about bank competition and bank risk taking are mostly based on partial equilibrium model,thus cannot capture the general equilibrium effect of bank competition,and is not suitable for normative discussion.In this chapter,we construct a general equilibrium model to study the social welfare effect of bank competition,and find the competitive banking equilibrium though increases risk taking,also raises social welfare.The reason lies that under interest rate liberalization,bank competition pushes higher deposit interest rate,and more economic agents switch to be depositors,not bankers,reduces the resources taken by banking industry,raises the resources for real economy.Investment rises and social welfare increases.The general equilibrium effect of bank competition overturns the conclusion of past partial equilibrium models.We need to consider further whether the bank risk taking brought by interest rate liberalization really harms the economic development,and improve the financial regulatory goal and policy based on this.Finally,further discuss the incentive motivation of banks' systemic risk taking and optimal risk precautionary measure in the dynamic general equilibrium framework.In the model,banks decide whether to take the systemic risk with higher yield and very infrequent shocks.The trade-off is:on the one hand risk shifting benefit during the stable episode,and on the other hand the last bank standing effect after systemic crisis occurs.We use the above framework to discuss the role of capital adequacy requirement in the macro prudential management popularized recently.We find that although capital requirement reduces the lending and output during stable episode,also reduces the systemic risk taking by banks.After introducing the social welfare function,we numerically simulate the model and find out the capital requirement that maximizing the social welfare is on average higher than the goal set by Basel III and China's Banking Regulatory Commission(CBRC).Comparing the lower capital requirement in reality and higher one in the model,we find the lending and output decline less severely in the higher capital requirement environment due to lower systemic risk taking by banks.Another finding is that the systemic risk taking by banks deteriorates in the situation of counter-cyclical capital requirement.The reason comes that counter-cyclical capital requirement would reduce the banks' scarcity capital rents during the systemic crisis,thus encourage banks to take more systemic risk during stable episode.The novelty of the dissertation:Firstly,using the threshold panel model to analyze the non-linear relationship between bank competition and bank risk taking,and,for the first time,use the distance to default based on market data to measure the banks' risk taking.Secondly,based on Wagner(2010)model,analyze the relationship between bank competition and banks' systemic risk,and use SRISK to measure the contribution to systemic risk of China's commercial banks for the first time,empirically reveal the fact that bank competition can reduce the systemic risk of banking industry.Thirdly,constructing a general equilibrium model including depositors,bankers and entrepreneurs,study the general equilibrium effect of bank competition to bank risk taking for the first time,also introduce social welfare measure,and find that bank competition to some degree increases the bank risk taking,but also raises social welfare through general equilibrium effect as well.Finally,under the framework of dynamic general equilibrium model,reveal the motivation of banks' systemic risk taking,and combine with the background of macro-prudential management,discuss the relationship between banks' systemic risk taking and minimum capital requirement.The numerical simulation implies that the optimal capital requirement is higher than that set by the China's banking regulatory commission(CBRC).Finally,compare the degree of impact to the economy from the systemic crisis under two environments of different level of capital requirement,provide the trade-off choice of macro-prudential management for the regulatory authority.