Bank Competition and Firms' Risk-Taking

Abstract

We examine whether and how bank competition influences non-financial firms' risk-taking. Using the staggered timing of banking deregulation across U.S. states starting in the mid-1990s, we show that an increase in bank competition reduces the risk-taking of non-financial firms. Two major changes in the banking industry can explain our results: weakened firm-bank relationships and borrowers' lower risk-taking incentives in response to the availability of cheaper credit. While capital expenditures and asset growth increase after banking deregulation, R\&D expenses remain unchanged, consistent with a tilt towards less risky investments. The effect is stronger for firms that are smaller, less transparent, and more reliant on bank financing. Firms that borrow predominantly from out-of-state banks after banking deregulation reduce risk-taking more.

Keywords: bank competition, corporate risk-taking, relationship lending, investment

JEL Classification: G28, G32, G21