Spillovers from entry: the impact of bank branch network expansion

Abstract

I study why local banking markets became dominated by multimarket firms following deregulation in the 1990s. I estimate a model of branch entry that allows for spillovers across markets. The spillovers complicate estimation, and so I develop a revealed preference approach that also deals with unobserved firm and market heterogeneity. I then analyze the impact of multimarket banks and find that they increase local competition, but that they also open more branches than single‐market firms, and subsequently offer lower deposit rates. Ultimately, their welfare impact differs across markets based on the availability of outside alternatives and consumer sensitivity to rates.

Strategic Complementarities in Bank Branching Decisions*

“…Consumer utility also depends on the number of branches per capita a bank has in outside markets, . This accounts for the spillover effects found in Kuehn [2018], where the profitability of a branch in one market can be affected by the number of branches a bank has in other markets. For estimation I follow Kuehn [2018] and allow the spillover effect to differ based on whether the outside branches are in markets within 20 miles, farther away markets within the same state, or in different states.…”

“…This accounts for the spillover effects found in Kuehn [2018], where the profitability of a branch in one market can be affected by the number of branches a bank has in other markets. For estimation I follow Kuehn [2018] and allow the spillover effect to differ based on whether the outside branches are in markets within 20 miles, farther away markets within the same state, or in different states. Equation also includes observable bank characteristics (age, assets, employees per branch), and observable market characteristics (population, per capita income, employment, earnings, and the growth in each of these variables).…”

“…These two papers complement each other by both analyzing the bank branching decision to explain why the number of bank branches exploded throughout the late 1990's and early 2000's. However, they differ in that Kuehn [2018] focuses on how the profitability of a branch is affected by a bank's own decision to open other branches either in the same market or in outside markets, while this paper focuses on how the profitability of a branch is affected by rivals' branching decisions. For that reason, the model in this paper differs from Kuehn [2018] in that it more directly incorporates how competition affects the branching decision (by adding the nested logit structure to analyze the substitutability between banks of different types), and focuses less on spillovers from other branches owned by the same bank 3 (which affected both the revenue and costs of branching in Kuehn [2018], but here only affects revenue).…”

“…Finally, this paper is related to Kuehn [2018], which also looks at the impact that deregulations had on branching, particularly the proliferation of multi‐market banks that followed. That paper is interested in how a bank’s branching decision in one market is related to their branching decisions in other markets.…”

“…Using an approach similar to Fan [2013], I instrument for the competitors' number of branches in that market, with the average demographic characteristics of outside markets in which these competitors have branches, but the dependent variable bank does not. These characteristics impact the number of branches these competitors open in outside markets, which is related to the number of branches they open in the market of interest due to spillovers (Kuehn [2018]). However, since the dependent variable bank has no branches in the chosen outside markets, the market characteristics should be exogenous from that bank's branching decision.…”