This chapter considers the scale of operation of the banking firm. We focus on two key issues. The first is whether the banking industry shows sufficiently large economies of scale that only one firm survives in the competitive equilibrium, i.e., we consider whether banking is a natural monopoly. This is an important question because arguments that banking is a natural monopoly have sometimes been used to justify government intervention into the banking industry, or else to make the case that there is no point deregulating banking because the industry — or, more specifically, some aspect of it, such as the note issue — would be a monopoly anyway even under laissez-faire. Our discussion suggests that the claim that banking is a natural monopoly is theoretically weak: theory suggests that banking is subject to scalar economies, but these economies are not sufficiently pronounced to make banking a natural monopoly. The theory is also confirmed by the empirical evidence, and there is in fact no evidence at all that banking is a natural monopoly.
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