Financial Update (First Quarter 2002)
Small Banks Hold Their Own
ergers that increased the size and scope of large banks, competition from mutual funds, and new nonbank players have ostensibly threatened the competitiveness of traditional small banks. But a recent survey of small banks over a 15-year period finds that the expansion of deposits and assets at these institutions has exceeded the growth rate of large banks.
In their study “The Economic Performance of Small Banks, 1985–2000,” William F. Bassett and Thomas F. Brady of the Federal Reserve Board’s Division of Monetary Affairs note that “the profitability of small banks has risen to high levels” over this period.
Success with loans
It would seem that the consolidation in the banking industry in recent years had the potential to damage the competitive position of small banks. Yet quite the opposite effect appears to have occurred. Small banks, well known in their communities, have benefited from local experience and knowledge. On the loan side, larger banks have been unable to compete effectively in local loan markets mainly because of their real and perceived geographic distance. On the funding side, local depositors are often wary of banks out of their area. Bassett and Brady report that these consumers have often reacted to mergers and local bank acquisitions by moving their deposits to small, locally headquartered banks.
In favor of small banks
To further support their findings, the authors note: “The robust growth and high profitability we find at small banks have not gone unnoticed by investors that have formed significant numbers of new banks in recent years.”