The Cost of Banking with Naivety and Adverse Selection

42 Pages Posted: 4 Jun 2021 Last revised: 11 Jan 2024

See all articles by John E. Thanassoulis

John E. Thanassoulis

University of Warwick - Warwick Business School; UK Competition and Markets Authority; Oxford-Man Institute, University of Oxford

Tamas Vadasz

KU Leuven - Faculty of Business and Economics (FEB)

Date Written: May 5, 2023

Abstract

We build a two-stage model of competition in the banking market to study the combined price of accounts and credit. We include naivety, adverse selection, and imperfect screening. We show that credit market profits are not competed away in the (primary) market for accounts. We establish an Information Penalty: the total cost of banking to consumers is V -shaped in the quality of screening in free banking markets. This implies better AI or use of Big Data first lowers then raises the cost
of banking in countries similar to the US/UK. While in paid banking markets we establish a Sophistication Penalty: the cost of banking is n-shaped in customer sophistication. This implies improving financial literacy can raise banking costs in countries similar to France/Germany.

Keywords: Information, Naivety, Retail Banking, Credit pricing, Competition

JEL Classification: G10, G21, G40

Suggested Citation

Thanassoulis, John E. and Vadasz, Tamas, The Cost of Banking with Naivety and Adverse Selection (May 5, 2023). Proceedings of the EUROFIDAI-ESSEC Paris December Finance Meeting 2023, Available at SSRN: https://ssrn.com/abstract=3859667 or http://dx.doi.org/10.2139/ssrn.3859667

John E. Thanassoulis

University of Warwick - Warwick Business School ( email )

Coventry CV4 7AL
United Kingdom

HOME PAGE: http://https://sites.google.com/site/thanassoulis/

UK Competition and Markets Authority ( email )

Victoria House
37 Southampton Row
London, WC1B 4AD
United Kingdom

Oxford-Man Institute, University of Oxford ( email )

Eagle House
Walton Well Road
Oxford, Oxfordshire OX2 6ED
United Kingdom

Tamas Vadasz (Contact Author)

KU Leuven - Faculty of Business and Economics (FEB) ( email )

Naamsestraat 69
Leuven, B-3000
Belgium

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