Strategic effects of regulatory capital requirements in imperfect banking competition

This paper analyzes the competitive effects of regulatory minimum capital requirements on an oligopolistic loan market. Before competing in loan rates banks choose their capital structure, thereby making an imperfect commitment to a loan capacity. It is shown that due to this imperfect commitment, regulatory requirements not only increase the marginal cost of loan supply, but can also have a collusive effect resulting in increased profits. This paper derives the threshold value from which capital requirements can turn one round Bertrand competition into a two-stage interaction with capacity commitment, leading to Cournot outcomes. Therefore, it provides theoretical support for the applicability of the Cournot approach when modeling imperfect loan competition.