Tinbergen Institute Discussion Paper 12-146/IV/DSF49
In imperfectly competitive credit markets, banks can face a tradeoff between exploiting their market power and enforcing hard budget constraints. As market power rises, banks eventually find it too costly to discipline underperforming borrowers by stopping their projects. Lending relationships become too cozy, interest rates rise, and loan performance deteriorates.
Banking Competition Soft Budget Constraint Problem Moral Hazard