The Effects of Banking Competition on Growth and Financial Stability: Evidence from the National Banking Era

86 Pages Posted: 16 Jul 2018 Last revised: 24 Jul 2019

See all articles by Mark A. Carlson

Mark A. Carlson

Board of Governors of the Federal Reserve System

Sergio Correia

Board of Governors of the Federal Reserve System

Stephan Luck

Federal Reserve Banks - Federal Reserve Bank of New York

Date Written: January 21, 2019

Abstract

How do restrictions on banking competition affect credit provision and economic output? And, how do they affect financial stability? To identify the causal effects of banking competition, we exploit a peculiarity of bank capital regulation in the National Banking Era: opening banks in towns with more than 6,000 inhabitants required twice the equity as in towns below this threshold, thus leading to a locally exogenous variation of entry barriers. We construct a novel comprehensive data set comprising the annual balance sheets of all national banks, and link it with the results of the decennial census. We show that banks operating in markets with lower entry barriers extend more credit and choose a higher leverage. The resulting local credit boom, in turn, is associated with an expansion in the local manufacturing industry. However, banks in markets with lower entry barriers are also more likely to default or go out of business during a major financial crisis. Altogether, we provide causal evidence that credit growth can cause both, economic growth and financial instability.

Keywords: Banking, Banking Competition, Risk Taking, Credit Provision, Real Effects, Financial Crisis, Panic of 1893, Economic History, National Banking Era

JEL Classification: G00, G01, G20, G28, N2, N21

Suggested Citation

Carlson, Mark A. and Correia, Sergio and Luck, Stephan, The Effects of Banking Competition on Growth and Financial Stability: Evidence from the National Banking Era (January 21, 2019). Available at SSRN: https://ssrn.com/abstract=3202489 or http://dx.doi.org/10.2139/ssrn.3202489

Mark A. Carlson

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States
(202) 452-3987 (Phone)
(202) 452-2301 (Fax)

Sergio Correia

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Stephan Luck (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States

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