Banking Deregulation and Credit Risk: Evidence from the EU
Journal of Financial Stability 2 (4): 356–390. 2007. DOI: 10.1016/j.jfs.2006.11.002
34 Pages Posted: 19 Jun 2017 Last revised: 20 Nov 2017
Date Written: 2007
This paper studies the effect of banking deregulation on credit risk. Its theoretical model shows that a bank is willing to invest more resources in screening borrowers when there is an entry threat, even though loan rates are driven lower. Thus, deregulation may result in improved loan quality and lower credit risk. This result is tested using bank-level balance sheet data and macroeconomic data for the European Union. The data reveal that competition intensified after the completion of the Second Banking Directive, while loan quality improved in most markets. Evidence is found that the loan quality improvement is associated with lower interest margin.
Keywords: Banking deregulation, Credit risk, Banking competition, European Union
JEL Classification: G2, L1
Suggested Citation: Suggested Citation