competition between banks and strongfinance companiesstrong - faculty and.pdfVIP

1 COMPETITION BETWEEN BANKS AND FINANCE COMPANIES: A CROSS SECTION STUDY OF PERSONAL LOAN DEBTORS * Gregory E. Boczar I. INTRODUCTION Consumer activism in recent years has resulted in numerous laws and regulations designed to protect the consumer in the marketplace. For example in the consumer credit field, truth-in-lending was legislated, wage garnishment was restricted, holders liability on credit cards was limited, disclosure of credit reports was required, and so on. Nevertheless, it still remains that competition is an important means of assuring the best possible terms to credit users. Because banks and finance companies are the largest suppliers of consumer credit, it follows that the degree of competition between the two will have an important influence on the competitiveness of consumer credit markets in general. Therefore, this paper examines the question of whether competition between banks and finance companies for consumer credit customers is limited by market segmentation on the basis of customer risk.1 This study of market risk segmentation will have important implications for the merger analysis conducted by the Federal Reserve Board which has responsibility for evaluating the competitive effects of mergers between bank holding companies and finance companies. II. MARKET RISK SEGMENTATION Consumer credit researchers have generally believed that the market for consumer credit is substantially segmented on the basis of risk ([5], pp.128-129; [22], pp.29-31). That is, banks supposedly serve low risk borrowers while finance companies cover the high-risk borrowers. This market risk segmentation is thought to be caused by regulatory constraints and the historical practices of the two industries ([5], pp.128135; [8], pp.1444-1445).