Competition, Financial Innovation and Specialization in Credit Markets

44 Pages Posted: 23 Mar 2009 Last revised: 23 Aug 2011

See all articles by Rebecca Zarutskie

Rebecca Zarutskie

Board of Governors of the Federal Reserve System

Multiple version iconThere are 2 versions of this paper

Date Written: August 18, 2011

Abstract

I examine how commercial banks’ lending strategies respond to deregulation-driven credit market competition and the concurrent rise in securitization in the U.S. over the period 1976 to 2003. Banks display greater specialization in their loan portfolios after deregulation, with larger and younger banks making more loans backed by real estate, and smaller and older banks making more non-real-estate-backed commercial and personal loans. A large part of the shift in lending between these groups of banks appears to be driven by larger and younger banks making greater use of innovations in securitization markets. When larger and younger banks make more real-estate-backed loans, they exhibit larger fractions of defaults yet charge lower interest rates on these loans, consistent with these banks lowering the costs of lending and expanding credit for borrowers. In contrast, when smaller and older banks make more commercial and personal loans, they exhibit lower default rates and charge higher interest rates, consistent with these banks restricting lending to higher quality loans. The analysis presents new evidence on the role that competition and innovation in financial markets play in the equilibrium supply of credit.

Keywords: Credit market competition, Securitization, Financial innovation, Lending specialization, Banking deregulation

JEL Classification: G21

Suggested Citation

Zarutskie, Rebecca, Competition, Financial Innovation and Specialization in Credit Markets (August 18, 2011). AFA 2010 Atlanta Meetings Paper, Available at SSRN: https://ssrn.com/abstract=1364196 or http://dx.doi.org/10.2139/ssrn.1364196

Rebecca Zarutskie (Contact Author)

Board of Governors of the Federal Reserve System ( email )

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