Market Structure, Screening Activity, and Bank Lending Behavior

In this paper, we construct a spatial model of banking competition that considers the differential information among banks and potential borrowers to investigate how the market structure affects the lending behavior of banks and their incentives to invest in screening technology. Consistent with the prevailing view, our results show that a larger number of banks reduce lending cost, which, in turn, encourages the entry of new customers in the loan market. Also, that market structure has an important impact on banks’ incentives to screen loan applicants. In particular, we find that banks invest more in screening as a result of higher competition. This is largely explained by the fact that the number of bad credit applicants increases due to intensified competition. Consequently, banks resort to screening in order to efficiently protect themselves against excessive credit risk-taking. Overall, the paper provides support to a rather close relationship between the industry structure, the lending activity of banks, and bank investment in screening technology