Corporate Risk Management

CHAPTER 19Risk Management and Industrial Organization

Does risk management affect competition between firms? This industrial organization question has not been covered extensively in the literature despite its significance, particularly in markets where risk management is not regulated. For example, risk management may become a matter of competition when it increases debt capacity by lowering debt cost. Risk management could also affect the entry cost in a new industry or help finance mergers and acquisitions in a more mature market. In these examples, risk management decisions become market strategic decisions.

Industrial organization links firms to markets. It is particularly significant in a world of imperfect competition arising from limited information, transaction costs, and entry barriers (Tirole, 1988). It covers price discrimination, collusion, entry and exit, mergers and acquisitions, product differentiation, and many other subjects related to firms' strategic behavior. Usually, being a strategic firm matters in concentrated markets or those limited to a few firms. This does not mean that there is no competition between firms, but the type of competition tends to be very far from perfect. In fact, in a world of perfect competition, risk management may not matter. As discussed in previous chapters, the main motivation behind risk management lies in real-world market imperfections such as default costs, agency costs, and taxes. Managers' risk behavior may also justify ...