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Vertical integration to avoid contracting with potential competitors: Evidence from bankers' banks

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  • Brickley, James A.
  • Linck, James S.
  • Smith, Clifford W.
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    Abstract

    We examine a vertical integration decision within the commercial banking industry. During the last quarter of the 20th century, some community banks reduced their traditional reliance on correspondent banks for upstream products and services by joining bankers' banks, a form of business cooperative. Research on vertical integration focuses primarily on firm-specific investment, market power, and government regulation. However, this case is difficult to explain in terms of these standard vertical integration motives. Our evidence suggests that bankers' banks are a response to technological change and deregulation that results in increased costs faced by community banks in dealing with correspondent banks as both suppliers and potential competitors. For instance, loan participations require sharing proprietary information about major loan customers, something a community bank would not want to provide to a potential competitor.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 105 (2012)
    Issue (Month): 1 ()
    Pages: 113-130

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    Handle: RePEc:eee:jfinec:v:105:y:2012:i:1:p:113-130

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Boundaries of the firm; Banking; Economics of organizations; Ownership incentives; Agency theory; Decision authority; Location decisions; Riegle-Neal Act; Community banks; Interstate branching;

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    References

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    1. Francine Lafontaine & Margaret Slade, 2007. "Vertical Integration and Firm Boundaries: The Evidence," Journal of Economic Literature, American Economic Association, vol. 45(3), pages 629-685, September.
    2. Mayers, David & Smith, Clifford W, Jr, 1981. "Contractual Provisions, Organizational Structure, and Conflict Control in Insurance Markets," The Journal of Business, University of Chicago Press, vol. 54(3), pages 407-34, July.
    3. Mitchell A. Petersen & Raghuram G. Rajan, 2000. "Does Distance Still Matter? The Information Revolution in Small Business Lending," NBER Working Papers 7685, National Bureau of Economic Research, Inc.
    4. Berger, Allen N. & Miller, Nathan H. & Petersen, Mitchell A. & Rajan, Raghuram G. & Stein, Jeremy C., 2005. "Does function follow organizational form? Evidence from the lending practices of large and small banks," Journal of Financial Economics, Elsevier, vol. 76(2), pages 237-269, May.
    5. John Asker & Alexander Ljungqvist, 2010. "Competition and the Structure of Vertical Relationships in Capital Markets," Journal of Political Economy, University of Chicago Press, vol. 118(3), pages 599-647, 06.
    6. Armen A. Alchian, 1950. "Uncertainty, Evolution, and Economic Theory," Journal of Political Economy, University of Chicago Press, vol. 58, pages 211.
    7. Demyanyk, Yuliya & Ostergaard, Charlotte & Sorensen, Bent E, 2006. "US Banking Deregulation, Small Businesses and Interstate Insurance of Personal Income," CEPR Discussion Papers 5863, C.E.P.R. Discussion Papers.
    8. Randall S. Kroszner & Philip E. Strahan, 1999. "What Drives Deregulation? Economics And Politics Of The Relaxation Of Bank Branching Restrictions," The Quarterly Journal of Economics, MIT Press, vol. 114(4), pages 1437-1467, November.
    9. James, Christopher, 1987. "Some evidence on the uniqueness of bank loans," Journal of Financial Economics, Elsevier, vol. 19(2), pages 217-235, December.
    10. Bruce J. Summers, 1978. "Correspondent services, Federal Reserve services, and bank cash management policy," Economic Review, Federal Reserve Bank of Richmond, issue Nov, pages 29-38.
    11. Brickley, James A. & Linck, James S. & Smith, Clifford Jr., 2003. "Boundaries of the firm: evidence from the banking industry," Journal of Financial Economics, Elsevier, vol. 70(3), pages 351-383, December.
    12. Gary Whalen, 1982. "Operational policies of multibank holding companies," Economic Review, Federal Reserve Bank of Cleveland, issue Win, pages 20-31.
    13. Salop, Steven C & Scheffman, David T, 1987. "Cost-Raising Strategies," Journal of Industrial Economics, Wiley Blackwell, vol. 36(1), pages 19-34, September.
    14. William P. Osterberg & James B. Thomson, 1999. "Banking consolidation and correspondent banking," Economic Review, Federal Reserve Bank of Cleveland, issue Q I, pages 9-20.
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