Banking Competition, Moral Hazard and Leverage

25 Pages Posted: 31 Mar 2012

See all articles by Sanjay Basu

Sanjay Basu

National Institute of Bank Management

Date Written: March 20, 2012


A large body of literature has blamed moral hazard behaviour by banks, for triggering the recent global financial crisis. Many reasons have been cited for such incentive distortion, e.g. the originate-to-distribute approach, regulatory capital arbitrage or the possibility of systemic bailouts. These motives were stoked by a low interest rate regime, in the wake of free inflow of capital in advanced economies. In contrast, we show that domestic banking competition, per se, reduces monitoring and fuels risky lending booms. Therefore, we claim that the incentive problem is due to banking competition, rather than bailout guarantees or capital account liberalization.

Keywords: Risk monitoring, market share, lending booms, financial crisis.

JEL Classification: G10, G21

Suggested Citation

Basu, Sanjay, Banking Competition, Moral Hazard and Leverage (March 20, 2012). Available at SSRN: or

Sanjay Basu (Contact Author)

National Institute of Bank Management ( email )

Kondhwe Khurd, NIBM P.O.
Pune, WY Maharashtra 411048

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