In the banking literature, there is currently a debate regarding the impact of competition on the stability of banks. I attempt to contribute to this debate by examining the presence of two competing hypotheses in an emerging market economy, the “competition-fragility view” and the “competition-stability” view. I first construct measures of bank competition using indicators of market concentration and market power from a unique dataset of balance sheet and income statements for 542 banks operating in the Philippines from March 2010 to December 2020. These measures include the Herfindahl-Hirschman Index, H-Statistic, Lerner Index and the Boone Indicator. I then estimate the impact of these measures on bank solvency risk across the three banking industries – universal/commercial banks (U/KBs), thrift banks (TBs) and rural/cooperative banks (R/CBs).
At the industry level, I find that bank competition reduces bank-level solvency risk. Looking at the risk distribution, I show the presence of the competition-fragility and competition-stability hypotheses holding simultaneously for U/KBs. These findings imply that the impact of competition on bank risk depends crucially on the underlying individual bank risk. These findings also mean that competitive opportunities remain for smaller U/KBs. Throughout the study, I argue that the relationship between competition and bank risk is sensitive to other bank-specific characteristics and macroeconomic factors related to cost efficiency, extent of diversification strategy, funding source, capitalization and growth of real Gross Domestic Product. Importantly, I show the positive and significant impact of changes in the physical banking network on bank risk for U/KBs, but negative for TBs and R/CBs. Finally, I find that the pandemic has increased bank risk across banking industries.