Does Competition Instigate Risk-Taking in Dual Banking? A Corrected Approach Towards Banking Competition

This research investigates the impact of banking market competition on bank risk using a sample of all the commercial banks in Malaysia for the period 2005–2016. This paper uses the system GMM estimator to tackle potential omitted variable bias, endogeneity, and simultaneity issues. After controlling for bank market and country specific characteristics, this study reports a strong and robust evidence that competition in banking market is conducive to banking risk. In addition, the evidence supports the “competition-fragility” view. This research further splits the sample into sub-samples, that are Conventional banks and Islamic banks, to explore any possible bank type effects. However, it is concluded that intense banking competition leads to risk regardless of bank type. Moreover, it is found that the magnitude of the effect of the competition is higher for conventional banks than Islamic Banks. This research establishes that the activities of banks are based on the basic traditional banking operations and products, and banks need to diversify their business activities in order to reduce failure risk and preserve the banking sector stability.