The Impact of the Growth of Large, Multistate Banking Organizations on Community Bank Profitability

Especially since the passage of the Riegle-Neal Act in 1994, community banks increasingly face large, multistate holding company (MSHC) rivals in the local markets in which they operate. These large MSHCs more often operate through interstate branches, rather than through the offices of a separate subsidiary headquartered in-state. Disagreement persists about the likely effects of this trend on community banks. If large absolute size, or an interstate branch form, confer competitive advantages, the profitability of community banks should be lower in markets where they face such rivals. On the other hand, a number of observers cite possibly offsetting advantages associated with small size, such as a greater ability to offer valued personal service. To date, virtually no empirical studies have focussed on this issue. A panel data set of community banks is constructed to investigate this issue. This data set consists basically of all " single market " banking organizations more than three years old, with total assets of $500 million or less, in each year over the 1995-1999 period. This analysis focuses on community banks in MSA markets, where the presence of larger, multistate competitors is significant. Pre-tax return on average assets is used as the measure of profitability. The intended aim of the analysis is to determine if and how community bank profitability is influenced by several different characteristics of competing MSHCs. The characteristics examined include their absolute size, the location of their headquarters (in-state or out-of-state), and the organizational form characterizing their out-of-state operations (interstate branches vs. in-state offices of out-of-state bank subsidiaries). The empirical results suggest that the profitability of community banks tends to be lower, the greater the market presence of MSHCs. This effect appears to vary with both MSHC absolute size and organizational form. In particular, the estimated coefficients on measures of out-of-state MSHC operations conducted through interstate branches are consistently negative and significant. * The opinions expressed here are those of the author and do not necessarily represent those of the OCC or the Treasury. The author would like to thank Amy Millen for editorial assistance.