Effects of the affiliation of banking and commerce on the firm's investment and the bank's risk

This paper examines how the affiliation of banking and commerce affects the firm's investment efficiency and the bank's risk exposure. The bank's holding of a borrowing firm's equity reduces the agency conflict between the firm and the bank, but increases the monitoring need of uninformed debtholders. Thus, the firm's investment efficiency is maximized when the bank's equity share is between zero and its debt share. The bank's risk exposure can increase in two ways. With a large equity share, the bank has more incentives to allow the firm to undertake risky projects. The firm, when it has control over the bank, may force the bank to finance its risky projects. (C) 2000 Elsevier Science B.V. All rights reserved. JEL classification: G21; G28.