Bank competition and financial stability: A comparison of commercial banks and mutual savings banks in Korea

• We examine two alternative hypotheses that relate bank competition to stability.
• The relation between competition and stability is nonlinear for commercial banks.
• Competition has a positive effect on stability of mutual saving banks.
• The relationship varies depending on the characteristics of the banks involved.
• The results provide important implications on banking competition policy.

In this study, we provide new evidence that the relationship between banking competition and financial stability varies depending on the characteristics of banks. By using a sample of two different types of banks, Korean commercial banks and mutual savings banks, we find that the non-linear relationship between competition and the stability of commercial banks reflects a trade-off between the interest effect and risk-shifting effect. However, consistent with Boyd and De Nicolo (2005), competition has a positive effect on the stability of mutual savings banks with greater business risk and weaker corporate governance. Our results provide important implications on banking competition policy.