Banking competition and corporate risk: Micro evidence from China

Although an extensive body of research examines the impact of banking competition on the overall economy, less is known about how banking competition affects corporate risk. Using a sample of more than 12,909 firm‐year observations covering the period from 2001 to 2019, we find that increased banking competition significantly elevates corporate risk. The mechanism analysis indicates that bank competition promotes increased corporate risk‐taking by easing financing constraints. The observed effects are particularly strong among firms in their startup and growth stages, those operating in high‐interest rate environments, regions with lower levels of financial competition and industries characterised by intense product market competition. This paper sheds light on the understanding of the relationship between corporate risk and banking competition in one of the most important emerging economies. The take‐away lesson for policy‐makers here is to provide guidance for carefully considering the trade‐offs between increased banking competition and potential risks to financial stability. Also, banks need to strike a balance between fostering healthy competition and maintaining prudent risk management practices.