Loan Volume and Interest Rate Determination in a Banking Market with Imperfect Competition

In imperfectly competitive banking markets, the determination of loan volume and interest rates matters because even modest differences in banks’ loan-origination efficiency can alter credit availability, borrowing costs, and the transmission of financial conditions to the real economy. The existing literature richly analyzes asymmetric information, relationship lending, and credit rationing, yet it does not offer a comparably simple and tractable oligopoly framework that links heterogeneous bank-level loan-production costs directly to equilibrium loan volume and market interest rates in a unified way. The purpose of this theoretical paper is to develop such a framework and to show how differences in banking efficiency, technology, and compliance burdens propagate into observable loan-market outcomes. The paper proposes a Cournot-style model of a banking market in which banks supply loans to a common market, face a downward-sloping inverse demand for loanable funds, and differ in constant marginal loan-production costs that summarize information frictions, regulatory burden, technology adoption, and related operational constraints. The novelty of the model lies in its explicit treatment of bank-specific loan-production costs as the central microfoundation connecting imperfect competition to equilibrium liquidity and borrowing costs, thereby yielding closed-form solutions for both symmetric and asymmetric banking structures. Unlike prior approaches that emphasize credit rationing, relationship formation, or information asymmetry in isolation, the present framework embeds those frictions within a transparent quantity-competition structure that makes comparative statics on efficiency, market size, and the number of banks straightforward and policy-relevant. The model reveals a first regularity: higher average loan-production costs reduce aggregate loan supply and increase the equilibrium interest rate, implying that banking inefficiency operates in the same direction as a contractionary monetary policy. It also reveals a second regularity: improvements in technology, information processing, or other cost-reducing capabilities expand market liquidity and lower borrowing costs, so that greater bank efficiency can generate effects analogous to an expansionary monetary policy even without a direct policy-rate change. These results create a basis for future empirical testing of heterogeneous bank-cost channels and offer practical relevance for monetary authorities, prudential regulators, and bank managers evaluating how technology investment and compliance design shape credit-market performance.