Bank geographic diversification and market competition

Abstract

We investigate the effect of geographic diversification on competition, proposing new bank-level competition indicators to capture the degree of competition in individual banks’ markets. By using the gravity-deregulation model to construct an instrument for geographic diversification, we find that geographic diversification increases the degree of competition in specific banking markets. Mechanism analyses suggest that geographic diversification spurs market competition through changing two elements of the banking market structure, namely, concentration level in the market and banks’ market shares. Our findings imply that banks’ geographic diversification could lead to an unintended effect on market competitiveness and the market structure could be endogenous to banks’ behaviours.