The Real Effects of Price Wars in the Russian Credit Market

Abstract

In this paper, we attempted to solve two problems - to understand whether there are distinctions in banks’ interest rate reactions to each other caused by differences in banks’ sizes and, if yes, how these distinctions are reflected in banks’ loan supply to the economy. As is well known, banks’ price wars lead to the reduction of interest rates on loans, but does this mean that the supply of banks’ loans will necessarily be stimulated? We divided the Russian banking system into four groups depending on the banks’ size: Sberbank (group 1); other banks in top-30 (group 2); other banks in top-100 (group 3); and banks outside the top-100 (group 4). Estimation results show, first, that the banks’ size indeed plays a significant role in terms of observed intensities of banks’ interest rate reactions to each other during both the boom and bust phases of the business cycle and, second, that these intensities within and between groups are indeed crucial for banks’ loan supply in both retail and corporate credit markets. We then prove that, in most of cases, the banks’ gains from successful price wars during the bust phases turn out to be economically smaller than the banks’ losses from the price wars when the economy is in its boom phases. Therefore, the price wars turn out to be destructive and are not able to deliver the long-term advantages to its winners compared with the costs required to conduct the war.