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Strategic competition in the banking industry

A model of interbank rivalry is developed and tested in the context of a one period duopolistic game with stochastic variability in deposit and loan demand. A procedure involving two specification tests is used to examine model implications. Results confirm that banks change their lending rates not only in response to changing own cost conditions but also in recognition of mutual interdependence – strategic competition. The possibility that banks respond strategically to each other may have implications for antitrust analysis.