DP6412 | The Impact of Organizational Structure and Lending Technology on Banking Competition

Publication Date

03/08/2007

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Abstract

Recent theoretical models argue that a bank?s organizational structure reflects its lending technology. A hierarchically organized bank will employ mainly hard information, whereas a decentralized bank will rely more on soft information. We investigate theoretically and empirically how bank organization shapes banking competition. Our theoretical model illustrates how a lending bank?s geographical reach and loan pricing strategy is determined not only by its own organizational structure but also by organizational choices made by its rivals. We take our model to the data by estimating the impact of the lending and rival banks? organization on the geographical reach and loan pricing of a singular, large bank in Belgium. We employ detailed contract information from more than 15,000 bank loans granted to small firms, comprising the entire loan portfolio of this large bank, and information on the organizational structure of all rival banks located in the vicinity of the borrower. We find that the organizational structures of both the rival banks and the lending bank matter for branch reach and loan pricing. The geographical footprint of the lending bank is smaller when rival banks are large and hierarchically organized. Such rival banks may rely more on hard information. Geographical reach increases when rival banks have inferior communication technology, have a wider span of organization, and are further removed from a decision unit with lending authority. Rival banks? size and the number of layers to a decision unit also soften spatial pricing. We conclude that the organizational structure and technology of rival banks in the vicinity influence local banking competition.