For example, it has been argued that increased bank competition can erode individual banks’ franchise values. This, in turn, can encourage banks to engage in imprudent behaviour. 9 Competitive behaviour can increase the resilience of the system, while a competitive market structure can weaken it. 10 A similar logic applies to an environment where liquidity is abundant.
This can result from a very accommodative monetary policy (as outlined in the “risk-taking” view of monetary policy transmission, 11) from a leveraged financial system with high inside money creation, 12 or from a combination of both. Such an environment exacerbates moral hazard problems in the banking sector, increasing banks’ appetite for risk.