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Is Bigger Necessarily Better in Community Banking?

Author

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  • Joseph P. Hughes

    () (Rutgers University)

  • Julapa Jagtiani

    () (Federal Reserve Bank of Philadelphia)

  • Loretta J. Mester

    () (Federal Reserve Bank of Cleveland)

Abstract

We investigate the relative performance of publicly traded community banks (those with assets less than $10 billion) versus larger banks (those with assets between $10 billion and $50 billion). A body of research has shown that community banks have potential advantages in relationship lending compared with large banks, although newer research suggests that these advantages may be shrinking. In addition, the burdens placed on community banks by the regulatory reforms mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act and the need to increase investment in technology, both of which have fixed-cost components, may have disproportionately raised community banks’ costs. We find that, on average, large banks financially outperform community banks as a group and are more efficient at credit-risk assessment and monitoring. But within the community bank segment, larger community banks outperform smaller community banks. Our findings, taken as a whole, suggest that there are incentives for small banks to grow larger to exploit scale economies and to achieve other scale-related benefits in terms of credit-risk monitoring. In addition, we find that small business lending is an important factor in the better performance of large community banks compared with small community banks. Thus, concern that small business lending would be adversely affected if small community banks find it beneficial to increase their scale is not supported by our results.

Suggested Citation

  • Joseph P. Hughes & Julapa Jagtiani & Loretta J. Mester, 2016. "Is Bigger Necessarily Better in Community Banking?," Departmental Working Papers 201604, Rutgers University, Department of Economics.
  • Handle: RePEc:rut:rutres:201604
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    References listed on IDEAS

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    Cited by:

    1. Jagtiani, Julapa & Lemieux, Catharine, 2016. "Small Business Lending After the Financial Crisis: A New Competitive Landscape for Community Banks," Economic Perspectives, Federal Reserve Bank of Chicago, issue 3, pages 1-30.
    2. Joseph P. Hughes & Loretta J. Mester & Choon-Geol Moon, 2016. "Market Discipline Working for and Against Financial Stability: The Two Faces of Equity Capital in U.S. Commercial Banking," Departmental Working Papers 201611, Rutgers University, Department of Economics.

    More about this item

    Keywords

    community banking; scale; financial performance; small business lending;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • L25 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Performance

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