A Theory of Banking Structure

This paper proposes a theory to analyze the specialization of banking activities based upon the di erent functions that banks perform when rendering a variety of nancial services. The functional di erence in the services performed by banks is based upon two dimensions: the degree of information asymmetry involved in providing the service, and the degree of veri ability of the value of the service rendered. This has implications for the length of banking relationships and also determines whether banks develop the right degree of skill specialization and resource intensity for the existing task mix. Costly overspecializationoccurs in certain deal type transactionsand underspecialization occurs in relationship type transactions. The paper examines how bank-client relationships are structured and proposes an explanation for phenomena such as bank syndication. First-mover advantages and monopoly skills are also shown to be natural outcomes of the model. The analysis has implications for banking regulation, such as for the Glass-Steagall Act, in the sense that it analyzes the e ects of this specialization, rst enacted within the spirit of the Act.