What Drives the Persistent Competitiveness of Small Banks?

43 Pages Posted: 25 Sep 2002

See all articles by Thomas F. Brady

Thomas F. Brady

affiliation not provided to SSRN

William F. Bassett

Board of Governors of the Federal Reserve System (FRB)

Date Written: May 24, 2002

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.

Keywords: Banking, mergers, deposit insurance, systemic risk

JEL Classification: G2

Suggested Citation

Brady, Thomas F. and Bassett, William F., What Drives the Persistent Competitiveness of Small Banks? (May 24, 2002). FEDS Working Paper No. 2002-28. Available at SSRN: https://ssrn.com/abstract=315965 or http://dx.doi.org/10.2139/ssrn.315965

Thomas F. Brady (Contact Author)

affiliation not provided to SSRN

William F. Bassett

Board of Governors of the Federal Reserve System (FRB) ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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