Vertical Integration to Avoid Contracting with Potential Competitors: Evidence from Bankers’ Banks

49 Pages Posted: 20 May 2010 Last revised: 4 Mar 2018

See all articles by James A. Brickley

James A. Brickley

University of Rochester - Simon Business School

James S. Linck

Southern Methodist University (SMU) - Finance Department

Clifford W. Smith

Simon Graduate School of Business, University of Rochester

Date Written: August 25, 2011

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.

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

JEL Classification: D23, G21, L22, G32

Suggested Citation

Brickley, James A. and Linck, James S. and Smith, Clifford W., Vertical Integration to Avoid Contracting with Potential Competitors: Evidence from Bankers’ Banks (August 25, 2011). Journal of Financial Economics (JFE), No. 105, 2012. Available at SSRN: https://ssrn.com/abstract=1612259 or http://dx.doi.org/10.2139/ssrn.1612259

James A. Brickley

University of Rochester - Simon Business School ( email )

Carol Simon Hall 3-160L
Rochester, NY 14627
United States
585-275-3433 (Phone)
585-442-6323 (Fax)

James S. Linck (Contact Author)

Southern Methodist University (SMU) - Finance Department ( email )

United States

Clifford W. Smith

Simon Graduate School of Business, University of Rochester ( email )

Carol Simon Hall 3-202C
Rochester, NY 14627
United States
585-275-3217 (Phone)
585-442-6323 (Fax)

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