Bank market structure, competition, and stability: Issues and concepts

A perceived simultaneous increase in consolidation and competition in banking systems around the world has intensified public policy debates on the nexus between consolidation and competition on one hand, and bank soundness on the other hand. In light of these developments, this paper reviews and evaluates the contemporary literature on the effect of structural and nonstructural measures of competition on bank soundness. While the established literature points toward negative trade-offs between competition and bank soundness, this review concludes that recent studies increasingly bolster the view that competition is beneficial for bank stability. This paper starts out with a survey of key studies from the literature on competition, concentration, and soundness. I then provide an assessment of the underlying concepts in the industrial organization literature and review alternatives to the Structure-Conduct-Performance paradigm that dominates the extant literature. Second, I point out several issues that have been widely ignored in contemporary studies but that are critical for public policy recommendations. Finally, I suggest some avenues for future research.