The simple analytics of oligopoly banking in developing economies

Khemraj, Tarron (2010): The simple analytics of oligopoly banking in developing economies. Forthcoming in: Journal of Business, Finance and Economics in Emerging Economies

Abstract

Previous studies have documented the tendency for the commercial banking sector of many developing economies to be highly liquid and be characterised by a persistently high interest rate spread. This paper embeds these stylised facts in an oligopoly model of the banking firm. The paper derives both the loan and deposit rates as a mark up rate over a relatively safe foreign interest rate. Then, using a diagrammatic framework, the paper provides an analysis of: (i) the distribution of financial surplus among savers, business borrowers and banks; (ii) exogenous deposit shocks; (iii) exogenous loan demand shocks; and (iv) the impact of interest rate control on financial intermediation.

• Item Type: MPRA Paper
• Language: English
• Keywords: Oligopoly, commercial banks, developing economies, distribution
• Subjects: D - Microeconomics > D3 - Distribution > D30 - General; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E40 - General; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages

References

Chirwa, Ephraim and Montfort Mlachila. 2004. “Financial reforms and interest rate spreads in the commercial banking system in Malawi”. IMF Staff Papers, Vol. 51, No. 1, 96-122.

de la Torre, Agusto, Juan Gozzi and Sergio Schmukler. 2007. “Financial development: maturing and emerging issues”. World Bank Research Observer, Vol. 22, No. 1, 67-102.

Frexias, Xavier and Jean-Charles Rochet. 1999. Microeconomics of Banking. Cambridge, Massachusetts: The MIT Press.

Fielding, David and Anja Shortland. 2005. “Political violence and excess liquidity in Egypt”. Journal of Development Studies, Vol. 41, No. 4, 542-557.

Gelos, R. Gaston. 2006. “Banking spreads in Latin America”. IMF Working Paper WP/06/44, International Monetary Fund.

Goodhart, Charles. 2009. “The continuing muddles of monetary theory: a steadfast refusal to face facts”. Economica, Vol. 76, 821-830.

Hannan, Timothy. 1991. “Foundations of the structure-conduct-performance paradigm in banking”. Journal of Money, Credit and Banking, Vol. 23, No. 1, 68-84.

Hannan, Timothy and Allen Berger. 1991. “The rigidity of prices: evidence from the banking industry”. American Economic Review, Vol. 81, No. 4, 938-945.

Khemraj, Tarron. 2010. “What does excess bank liquidity say about the loan market of Less Developed Countries?” Oxford Economic Papers, Vol. 62, No. 1, 86-113.

Khemraj, Tarron. 2009. “Excess liquidity and the foreign currency constraint: the case of monetary management in Guyana”. Applied Economics, Vol. 41, No. 16, 2073-2084.

Klein, Michael. 1971. “A theory of the banking firm”. Journal of Money, Credit and Banking, Vol. 3, No. 2, 205-218.

Moore, Winston and Roland Craigwell. 2002. “Market power and interest rate spread in the Caribbean”. International Review of Applied Economics, Vol. 16, No. 4, 391-405.

Neumark, David and Steven Sharpe. 1992. “Market Structure and the Nature of Price Rigidity: Evidence from the Market for Consumer Deposits”. Quarterly Journal of Economics, Vol. 107, No. 2, 657-680.

Saxegaard, Magnus. 2006. “Excess liquidity and the effectiveness of monetary policy: evidence from Sub-Saharan Africa”. Working Paper 06/115, International Monetary Fund.

Slovin, Myron and Marie Sushka. 1983. “A model of the commercial loan rate”. The Journal of Finance, Vol. 38, No. 5, 1583-1596.

Stiglitz, Joseph. 1989. “Financial markets and development”. Oxford Review of Economic Policy, Vol. 5, No. 4, 55-67.