Can Relationship Banking Survive Competition?

Authors

  • Arnoud W. A. Boot,

  • Anjan V. Thakor

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    • Boot is at the University of Amsterdam, Tinbergen Institute, and CEPR, and Thakor is at the University of Michigan Business School. The authors thank Christa Bouwman, Anjolein Schmeits, Mitch Petersen, an anonymous referee, René Stulz (the editor), and seminar participants at Tulane University, Washington University (St. Louis), Birkbeck College (London), the Stockholm School of Economics, Université Louvain (Louvain La Neuve), Tor Vergate (Rome), Notre Dame University, the University of Michigan, the Federal Reserve Bank of New York, the March 1997 CEPR/INSEAD Conference on Financial Intermediation and the Structure of Capital Markets (Fontainebleau), the June 1997 Western Finance Association meeting (San Diego), the November 1997 Bank of England regulation conference (London), and the December 1997 University of Venice/Bank of Italy conference on Financial Intermediation and Regulation (Venice) for helpful comments.

Abstract

How will banks evolve as competition increases from other banks and from the capital market? Will banks become more like capital market underwriters and offer passive transaction loans or return to their roots as relationship lending experts? These are the questions we address. Our key result is that as interbank competition increases, banks make more relationship loans, but each has lower added value for borrowers. Capital market competition reduces relationship lending (and bank lending shrinks), but each relationship loan has greater added value for borrowers. In both cases, welfare increases for some borrowers but not necessarily for all.

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