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What drives the persistent competitiveness of small banks?

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Abstract

Several trends in the financial industry could have weakened the competitiveness of small banks in recent years. Despite those challenges, small banks have grown more rapidly than larger banks over the period from 1985 to 2001, and their profitability has been sustained at high levels. However, small banks have needed to increase the interest rates offered on deposit accounts in order to attract progressively more deposit funding. In this paper, we provide empirical evidence that this increased interest cost primarily reflects the high rate of return that small banks were able to earn on their assets. Moreover, we show with an arbitrage model that the decline in the real value of deposit insurance has only a small effect on deposit rates as long as bank failure rates are in the low range of recent years.

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  • William F. Bassett & Thomas F. Brady, 2002. "What drives the persistent competitiveness of small banks?," Finance and Economics Discussion Series 2002-28, Board of Governors of the Federal Reserve System (U.S.).
    • Handle: RePEc:fip:fedgfe:2002-28
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    3. Mattia Girotti, 2021. "How monetary policy changes bank liability structure and funding cost," Oxford Economic Papers, Oxford University Press, vol. 73(1), pages 49-75.
    4. Wanting Wang, 2012. "The Special Characteristics of American Community Banking," International Journal of Academic Research in Accounting, Finance and Management Sciences, Human Resource Management Academic Research Society, International Journal of Academic Research in Accounting, Finance and Management Sciences, vol. 2(2), pages 182-189, April.
    5. Kwangwoo Park & George Pennacchi, 2009. "Harming Depositors and Helping Borrowers: The Disparate Impact of Bank Consolidation," The Review of Financial Studies, Society for Financial Studies, vol. 22(1), pages 1-40, January.
    6. Becker, Bo, 2007. "Geographical segmentation of US capital markets," Journal of Financial Economics, Elsevier, vol. 85(1), pages 151-178, July.
    7. Dean F. Amel & Robin A. Prager, 2016. "Community Bank Performance: How Important are Managers?," Review of Industrial Organization, Springer;The Industrial Organization Society, vol. 48(2), pages 149-180, March.
    8. Evan Kraft, 2006. "How Competitive Is Croatia's Banking System?," Working Papers 14, The Croatian National Bank, Croatia.
    9. Mulyaningsih, Tri & Daly, Anne & Miranti, Riyana, 2015. "Foreign participation and banking competition: Evidence from the Indonesian banking industry," Journal of Financial Stability, Elsevier, vol. 19(C), pages 70-82.

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    Keywords

    Banks and banking; Bank mergers;

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