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Enhancing the Role of Competition in the Regulation of Banks

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The banking sector is one of the most closely regulated sectors of OECD economies. This regulation arises, in part, because it is argued that small depositors either are not able to or, because of deposit insurance, have no incentive to compare the riskiness of banks. As a result, bank competition tends to push banks to take excessive risks. In such a context controls on bank risk-taking are essential to ensure that competition between banks promotes efficient outcomes. Public policy concerns over banking are focused on the consequences of bank failures - either on small depositors, on the payments system or on the stability of the financial system as a whole. Occasionally, actions to prevent bank failures conflict with the goal of promoting or preserving competition, as might occur with state aid for failing banks, implicit state support for large banks or emergency measures to preserve a failing bank. In most OECD countries bank mergers are the joint responsibility of bank regulators and competition authorities, giving rise for the need for interaction and co-ordination. Given the political and economic sensitivity of this sector it is perhaps not surprising that some countries apply special competition regimes to the banking sector.

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Document Type: Review Article

Publication date: January 1, 2001

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