Regional economic conditions and community bank performance

Community banks, by virtue of their size and emphasis on so-called relationship banking, typically have limited geographic scope in their activities. This would seem to imply that their financial performance would be tied closely to the financial condition of their customers and, thus, to the economic conditions in regional banking markets. Contrary to this expectation, the empirical evidence on the relationship between average community bank performance and regional economic conditions is at best mixed. Moreover, studies tend to find that information on regional economic conditions is of limited help in predicting the performance of individual banks. ; In this Economic Letter, we argue that part of the explanation for this puzzle lies in the fact that looking at the average response of bank performance tends to mask the wide range of responses of individual banks' performances to regional economic shocks; we find evidence that individual bank responses run from significantly positive to significantly negative. At the same time, our analysis suggests that bank-specific factors are important drivers of the variation in the performance of community banks.