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fe d e r a l r-ebevwe la n /u 0 /c/eve/and ECO N O M IC R EV IEW Additional copies of the ECONOMIC REVIEW may be obtained from the Research Department, Federal Reserve Bank of Cleveland, P. O. Box 6387, Cleveland, Ohio 44101. Permission is granted to reproduce any material in this publication providing credit is given. FEBRUARY 1971 BANK CREDIT PROXY Economists have suggested several theories to attempt to explain how monetary policy affects economic activity. The various theories assign different orders, as well as different degrees of importance, to the economic processes involved in the transmission of monetary policy throughout the economy. In addition, the theories differ concerning the degree of sensitivity each area of the economy has to changes in other factors and developments in the trans mission process. They also d iffer in the estimates of the time it takes fo r a policy action to make itself felt, eventually, on employment, income, and prices. Therefore, economists and policymakers are not sure o f the exact, measurable way in which monetary policy actions influence these variables that have been established as ultimate targets. Against this background, the Federal Reserve System attempts to implement monetary policy in a way that assures a flow of money and credit consistent w ith the needs of the economy. Consequently, the Federal Reserve is concerned w ith those financial flows (money and credit) and interest rates that would be associated w ith the desired dimensions o f economic activity. Because the exact paths Bank Credit Proxy ...........3 of the impact of monetary policy and the degree of influence on the various monetary measures, or variables, are uncertain, it has been essential for the Federal Reserve Changes in Banks, to take account of this uncertainty in making policy Branches, and Banking decisions. The degree of uncertainty can be reduced by Offices in the Fourth watching several variables such as money supply, money District, 1965-1970 . . . . 1 1 market conditions, and, as discussed in this article, bank credit. 3 ECONOMIC REVIEW This article explores two aspects of bank credit: MEASURING BANK C REDIT its measurement, and the behavior of various measures during different monetary policy Essentially, bank credit can be measured in two ways—a direct and an indirect way. The direct periods. The general conclusion drawn from the method involves estimating the magnitudes of article is that alternative measures of bank credit bank assets; the indirect approach makes use of behave similarly, at least over periods longer than a bank deposit liabilities as "p ro x y " estimates of few months. total bank credit. The Federal Reserve System collects data on outstanding loans and investments from 341 large THE RATIO N A LE FOR BANK CREDIT Commercial bank credit is defined as total loans commercial banks1 and weekly data on major credit components from other member banks. and investments of commercial banks; it comprises These data are then used to estimate the dollar the major portion of the combined total assets of volume of bank credit for all member banks and these banks. For example, on November 25, 1970, all commercial banks as of the close of business total loans and investments of all commercial each Wednesday.2 These weekly loan and invest banks accounted for approximately 81 percent of ment totals often change erratically and have been their total assets. The other 19 percent consisted available for too short a period to permit adjust mainly of cash, reserve assets, and fixed assets. ment fo r seasonal influence. Consequently, these data are published w ithout seasonal adjustment. In Bank credit and its components may be con contrast, the staff o f the Board of Governors of sidered important for four general reasons. First, the Federal Reserve System prepares seasonally bank credit helps to finance or make possible adjusted figures fo r all commercial banks only for expenditures by consumers and businesses, and the last Wednesday of each month. Although these such spending eventually influences income, monthly data are seasonally adjusted, generally prices, and employment. Second, because changes they are not to be taken as a precise gauge of in bank credit could influence the level of demand on-going bank credit developments, principally deposits outstanding (the main component of the because o f their "single date" feature. One-day narrow measure of the money supply), bank credit figures often reveal and are biased by misleading or may be important in transmitting the influence of unusual events. On balance, therefore, it is very monetary policy to the money supply. Third, d iffic u lt to get a description of underlying bank some observers believe that developments in bank credit developments in the short run that is both credit are a gauge of general credit conditions in accurate and current. the economy. Finally, bank credit is significant to policymakers as one measure of bank reserve utilization. Since monetary policy actions have a 1 Released with a one-week delay in Federal Reserve direct influence on total member bank reserves, statistical release H.4.2. the effect o f these reserve changes on other variables can often be traced through changes in 2 commercial bank loans and investments. statistical release H.8. Released with a two-week delay in Federal Reserve FEBRUARY 1971 Bank Credit Proxy. In October 1966, a new For example, if member banks enlarge their statistical series was published in the Federal lending and investing potential either by increasing Reserve Bulletin. The series was already being used their capital or by adding to their nondeposit by the monetary authorities as an indirect estimate liabilities, the relationship between bank credit of bank credit developments. The new measure, and the proxy measure might be temporarily called the includes all disturbed. This has been particularly true in recent deposits subject to reserve requirements of all years, when commercial banks have used funds "bank credit p ro xy," banks that are members of the Federal Reserve acquired from Eurodollar borrowings and other System. The Federal Open Market Committee nondeposit sources of funds to support a substan (FOMC) began using the bank credit proxy in tial volume of loans. Such use of funds from monetary policy deliberations and as an operating nondeposit sources brought about the develop guide during the summer of 1966. A t that time, ment o f an "adjusted credit p ro xy," which is the the FOMC instructed the Manager of the System credit proxy defined Open Market Account to maintain orderly money include Eurodollar borrowings, commercial paper market conditions provided that bank credit did issued by bank holding companies or other bank not expand more rapidly than expected.3 affiliates to acquire funds fo r the subsidiary bank, earlier but adjusted to The bank credit proxy consists of weekly or plus loans sold under repurchase agreements. The monthly averages of daily figures fo r private and adjusted bank credit proxy, therefore, is a broader U. S. Government demand deposits plus all time measure of funds available fo r potential lending and savings deposits.4 Deposits, being the major and investing than the unadjusted proxy because it liability of commercial banks, are a reasonable includes funds from both deposit and nondeposit proxy for bank credit; these deposits not only are sou rces. a chief source o f funds for expanding bank credit, Both measures of the proxy are defined only for but they also tend to m irror movements on the member banks of the Federal Reserve System, but asset side of the banking system's balance sheet. they are often used to analyze the total credit of Therefore, the bank credit proxy is, conceptually member at least, a useful tool for analyzing fluctuations in combined. Therefore, a change in the relative share bank lending and investing. of credit accounted for by nonmember banks w ill and nonmember commercial banks The link between this proxy measure and actual temporarily alter the relationship between the commercial bank credit is not perfect, of course. proxy and total bank credit. The link w ill also be 3 affected, at least temporarily, if the ratio between See Board of Governors of the Federal Reserve System A nnual Report, 1966, p. 171. For a technical explanation the amount of currency held by the public and of the seasonally adjusted series on member bank deposits deposit liabilities of the member banks changes. (bank Currency withdrawals from the banking system, credit proxy), see Federal Reserve B ulletin, October 1966, p. 1460. although reflected in a decrease of deposits (a 4 decline in the bank credit proxy), often do not Private demand deposits include all demand deposits, except those due to the U. S. Government less cash items have an immediate effect on bank credit. Instead, in the process of collection and demand balances due the withdrawals may temporarily be balanced by a from domestic commercial banks. decrease in bank reserves. In such a case, it would 5 ECONOMIC REVI EW be misleading to infer that bank credit had meeting of the Federal Open Market Committee. changed, as would be suggested by the change in According to the February 1966 directive to the the bank credit proxy. Manager o f the System Open Market Account, a Any o f the reasons discussed above could restrictive policy was deemed appropriate in light account for a failure of the bank credit proxy to of rising prices, strong credit demands, and sub m irror precisely very short-run developments in stantial gains in GNP. The degree o f monetary bank credit itself. Nevertheless, the proxy figures restraint increased somewhat in the summer of do help to overcome some of the short-term 1966, as reserve requirements against time deposits weaknesses in the actual bank credit data. For one were raised effective in July and September, and thing, the proxy data meet the important test of Regulation Q ceilings were lowered in July and prompt availability, since daily deposit figures are September. Also, in September member banks gathered each day from large banks and each week were requested by letter to moderate their rates of from other banks.5 business loan expansion because the Federal Reserve was convinced that rapid increases in M O NETARY POLICY AND BANK C R EDIT A review o f recent changes in the two measures business loans were the principal factors causing the substantial gains in GNP and rising prices.7 In late November 1966, the FOMC announced a o f the bank credit proxy and the end-of-month, policy shift to achieve easier conditions in the seasonally adjusted bank credit series is useful in money market. The policy change was made in showing how the three series behave in relation to response to a strong need for liqu id ity and a one another. Here, the comparison is made against slackening in the demand for credit, accompanying the background o f periods designated by changes moderating tendencies in various sectors o f the in monetary policy.6 Since the bank credit proxy private economy. This policy of monetary ease was first used officially in August 1966, the period was maintained until November 1967. to be examined includes the months from then In November 1967, sharply rising prices and a through December 1970, the most recent month general resurgence o f economic activity, after for which FOMC policy actions had been pub settlement of an auto strike, prompted a shift in lished when this article was written. policy once again toward more firm conditions in Policy Changes. In August 1966, the economy money and credit markets. A subsequent m odifi was being influenced by a policy o f monetary cation of policy toward less restraint occurred in restraint that was initiated at the February 1966 the middle of 1968, when the FOMC decided to accommodate the somewhat less firm credit condi 5 Preliminary deposit data are available within one or two tions that had developed. In light of the package days for official use and more comprehensive figures are of fiscal restraints that was enacted late in June released to the public with a one-week delay. “The intent of monetary policy from August 1966 to 1968, it was fe lt that fiscal policy would take some of the burden from monetary policy in the efforts to restrain economic activity. October 1970 is stated in the Record of Policy Actions of the Federal Open Market Committee, as published in 7 See Board of Governors of the Federal Reserve System, various issues of the Federal Reserve B ulletin. Annual Report, 1966, pp. 102-104. FEBRUARY 1971 Monetary policy was made more restrictive period of relative monetary ease. During those beginning in December 1968 in response to rapid months, bank credit and the bank credit proxy growth in prices and costs. This policy of firmness rose at annual rates of 11.6 percent and 11.8 continued more or less unabated throughout 1969 percent, respectively. and until February 1970. A t that time, the FOMC The period of restraint from December 1968 expressed its desire to move gradually toward through January 1970 needs further comment. somewhat less firm conditions in the money Because commercial banks relied heavily on Euro market, provided that money and bank credit did dollar borrowings or other nondeposit sources of not deviate significantly moderate growth. from a pattern of O funds during those months, the bank credit proxy did not accurately m irror the observed change in Behavior of the Bank Credit Measures. Over the bank credit (3.8 percent increase in bank credit through against a 3.0 percent decline in the proxy). The December 1970, bank credit and the bank credit adjusted bank credit proxy, which includes funds proxy increased by 39.2 percent and 30.2 percent, from nondeposit sources, would be expected to e n tire period from August 1966 respectively. The tendency of the bank credit give a somewhat clearer picture of bank credit proxy to understate the growth of actual bank developments. However, data for the adjusted credit can be explained largely by banks' growing credit proxy are available only for approximately reliance on nondeposit sources o f funds, partic half this period. From June 1969 to January 1970, ularly during the latter part o f this period. (As actual bank credit remained essentially unchanged, mentioned while the adjusted credit proxy fell by an annual earlier, nondeposit funds are not included in the regular bank credit proxy.) An examination o f annual rates of change in the rate o f 1.5 percent, indicating the relatively close trends in the two measures. three measures of bank credit during the various The difference in the growth rates of the two policy periods described earlier further highlights measures of the bank credit proxy since m id-1969 the relationship between bank credit and the can be explained by movements in nondeposit measures of the bank credit proxy (see table). For sources of funds (see chart). In the eight months example, from August through November 1966, ended in January 1970, for example, commercial actual bank credit decreased at a 2.1 percent banks increased their liabilities from nondeposit annual rate, while the bank credit proxy fell at a sources by approximately $5.1 billion, primarily 2.0 percent annual rate. The close association of because banks were unable to attract deposits. At the tw o measures is also apparent in the period that time, rates paid by these banks on time and from December 1966 through November 1967, a savings deposits were not competitive w ith other short-term market rates, and the banks turned p In January 1970 the FOMC did express its desire to “see instead to funds from nondeposit sources. Subse a modest growth in money and bank credit." However, it quently, from February through December 1970, was in February that the FOMC voted for less firm conditions in the money market accompanied by moder ate growth in money and bank credit. See the "Record of banks reduced their liabilities from these sources by approximately $8.9 billion. Their actions were Policy Actions of FOMC,” Federal Reserve B ulletin, April taken for tw o reasons. Short-term market rates 1970, p. 334. began to fall during this period, and rates paid on 7 Bank Credit Developments Seasonally Adjusted Annual Rates o f Chnage August 1966—December 1970 Policy Periods August 1966November 1966 December 1966November 1967 December 1967June 1968 July 1968November 1968 December 1968January 1970 February 1970December 1970 Measures of Bank Credit Bank Credit Bank Credit Proxy Adjusted Bank Credit Proxy 2 . 1% 2.0 n.a. + 11 .6 % +11.8 n.a. +6.7% +3.7 n.a. +16.0% +13.9 n.a. +3.8% - 3 .0 -1 .5 * + 9.3% +13.3 + 9.4 —2.1 —0.9 + 6.4 +16.1 +6.5 +6.5 + 7.0 +16.4 +2.2 -3 .6 + 2.8 —3.1 + 7.5 +3.9 + 8.3 +2.5 + 3.4 —2.0 +11.8 +3.7 +13.9 -3 .0 +13.3 - Components of Credit Proxy Measures Private demand deposits Time and savings deposits Private demand deposits plus U. S. Government demand deposits Private demand deposits plus U. S. Government demand deposits plus time and savings deposits Private demand deposits and U. S. Government demand deposits plus time and savings deposits plus nondeposit sources of funds n.a. -1.5* +20.9 + 9.4 NOTE: The policy periods were established by an examination of the A nnual Reports of the Board of Governors of the Federal Reserve System and the Record of Policy Actions of the Federal Open Market Committee, published in the Federal Reserve Bulletin. n.a. Not available. * June 1969-January 1970. Source of Data: Board of Governors of the Federal Reserve System bank deposits became relatively more attractive. In more from policy period to policy period than the addition, the partial suspension in June 1970 of other three components o f the adjusted credit Regulation Q ceilings on maximum rates banks can proxy—demand deposits, United States Govern pay on time and savings deposits encouraged ment demand deposits, and nondeposit sources of further growth in large denomination certificates funds. An extreme example of this is revealed in a of deposit. comparison o f the period from July 1968 to Over time, the growth rates of both proxy November 1968 and the period from December measures can be explained primarily by changes in 1968 to January 1970. Although time and savings the time and savings deposit component. The chart deposits and table help to illustrate this point. Clearly, time percent in the first time period, they decreased at and savings deposits have fluctuated considerably a 3.6 percent 8 increased at an annual rate of 16.4 annual rate in the second period. wmmm B E H A V I O R OF T H E C O M P O N E N T S OF T H E B A N K C R E D I T P R O X Y FIND T H E A D J U S T E D C R E D I T P R O X Y ( A U G U S T 1 9 6 6 - D E C E M B E R 1970) B I L L I O N S OF D O L L A R S L AST ENTRY: DEC. 1970 S O U R CE OF DATA: BO A R D OF G O V E R N O R S OF THE F E O E R A L R E S E R V E S Y S T E M This change is considerably greater than the illustrate this effect. In the second half of 1969, comparable shift in rate of gain in private demand the volume of time and savings deposits declined deposits (7.0 percent, compared w ith 2.2 percent), because Regulation Q ceilings kept such deposits the second largest component of the credit proxy from being competitive. A fter February, however, measures. Time and savings deposits obviously other short-term rates began falling, leading to a responded more to changing credit conditions than slight did demand deposits, reflecting the impact of deposits at commercial banks. The partial suspen inflow o f funds into time and savings Regulation Q ceilings. During periods when Regu sion of Regulation Q ceilings late in June 1970 has lation Q ceilings kept interest rates on time and encouraged savings deposits from being competitive w ith other savings deposits since then.9 substantial increases in time and short-term interest rates in financial markets, the When Regulation Q ceilings are changed, time amounts of these deposits declined, often sharply. and savings deposits are directly influenced, and The proxies were affected accordingly. 9 The periods from June 1969 through January 1970 and February 1970 through December 1970 See "Regulation Qand Time Deposit Growth at Member Banks," Econom ic Com mentary, Federal Reserve Bank of Cleveland, July 27, 1970. 9 ECONOMIC REVIEW the tw o measures o f the bank credit proxy are the movements of bank credit itself (for reasons similarly affected. Because of these developments, discussed earlier in the article), but this may be of extreme caution must be used when attempting to little interpret changes in the two measures of the bank seem to disappear w ithin a few months. Any credit proxy or in bank credit itself. In particular, failure of the bank credit series or the two credit consequence; most short-term deviations is required before any proxy measures to duplicate each other exactly changes in these three variables can be said to can probably be explained by the technical d iffer indicate decisively the relative strength or ease of ences in the two series. For one thing, because the monetary policy at a particular time. bank credit series consists of figures for one day a additional information CONCLUDING COMMENTS month, while the two measures of the bank credit Both measures of the bank credit proxy have proxy represent daily averages over a month, the two prime advantages over the bank credit series proxies and the bank credit series are not compa itself. First, deposit data are more readily available rable in every sense. than are all bank statistics on loans and invest Since most monetary policy transactions are ments. Second, the seasonal adjustment of the carried out daily in the open market, it is essential more frequent deposit data is more meaningful. that the Manager o f the System Open Market An examination of the behavior of the two Account have as much accurate information as credit proxy measures, compared w ith the behav possible concerning important policy target vari ior of the end-of-month bank credit series, has ables. Bank credit is one such variable. The bank shown that the three series exhibited similar trends credit proxies provide Federal Reserve officials during the various monetary policy periods dis w ith reasonably accurate and relatively up-to-date cussed. However, the time periods analyzed were estimates of trends in bank credit and, therefore, relatively long. In any month, the two measures of help to alleviate the major problems inherent in the bank credit proxy may fail to m irror exactly analyzing the actual bank credit series. 10 FEBRUARY 1971 CHANGES IN BANKS, BRANCHES, AND BANKING OFFICES IN THE FOURTH DISTRICT, 1 9 6 5 - 1 9 7 0 During the 1965-1970 period, there was a significant change in the RECENT PATTERNS number of banks, branches, and banking offices From yearend 1965 to yearend 1970, the in the Fourth number of banks in the United States declined Federal Reserve D istrict.1 This article attempts to from 13,804 to 13,688, or by nearly 1 percent, tra c e by while in the Fourth D istrict,the number of banks Fourth District dropped from 841 to 794, for a decline of 6 these banking structure comparing, where appropriate, changes patterns w ith those in the United States. Changes percent (see Table I). The reduction in banks in banks and facilities in individual counties and during the five-year period in both the United Standard Metropolitan Statistical Areas (SMSAs) States and the Fourth D istrict is a continuation of are also examined to determine where and to what a extent such changes took place in the District. The mid-1950's.3 trend that has been apparent since the acquisition of banks by registered bank holding As shown in Chart 1, the number of branch companies in the Fourth District is not discussed offices increased at a slightly faster pace in the in detail in this article, even though there has been United States than in the Fourth District during a great deal of holding company activity in Ohio in 1965-1970. recent years.2 Figures indicating changes in the increases in branches were fairly steady, as they number of independent banks operating in Fourth have been since 1955. In both cases, the year-to-year District states do not reflect the number of banks The marked decline in the number of banks in acquired by holding companies, but only the the Fourth District and the United States was number of new banks, mergers, and bank closings more than offset by the rise in the number of that occurred in each state during the five-year branches. As a result, the number of banking period. offices in both the United States and the Fourth District increased sharply during the 1965-1970 1 End-of-year data are used in this article. The Fourth Federal Reserve District includes all of Ohio (88 counties) period. This also reflects a trend that has prevailed during the past 15 years. and parts of three states: eastern Kentucky (56 counties), western Pennsylvania (19 counties), and northwestern West Virginia (6 counties). 2 . . . See "Registered Bank Holding Company Activity in 3 See "The Anatomy of Ohio, 1964-1969," Econom ic Review, September 1970, 1964-1965," Federal Reserve Bank of Cleveland. Reserve Bank of Cleveland. Econom ic Fourth Review, District May 1966, Banking, Federal 11 ECONOMIC REVIEW TABLE I Change in the Number of Commercial Banks, Branches and Banking Offices United States and Fourth District December 31, 1965 to December 31, 1970 Net Change Percent Change December 31, 1965 December 31, 1970 United States Banks* Branches Total banking offices 13,804 15,753 29,557 13 ,6 88 t 21 ,63 3 t 35,3211 Fourth District Banks^ Branches Total banking offices 841 1,465 2,306 794 1,968 2,762 47 503 456 - 5.59 +34.33 +19.77 Kentucky (Fourth District Portion) Banks Branches Total banking offices 149 74 223 148 110 258 1 36 35 - 0.67 +48.65 +15.70 Ohio Banks§ Branches Total banking offices 541 947 1,488 516 1,293 1,809 25 346 321 - 4.62 +36.54 +21.57 Pennsylvania (Fourth District Portion) Banks# Branches Total banking offices 127 444 571 103 565 24 121 97 -1 8 .9 0 +27.25 +16.99 West Virginia (Fourth District Portion) Banks Branches Total banking offices 24 —0— 24 3 +12.50 116 +5,880 +5,764 668 27 - + 027 - + 03 - 0.84% +37.32 +19.50 - 0- +12.50 ’ Excluding mutual savings banks, t Preliminary figures. $ Excluding three mutual savings banks. § Excluding one mutual savings banks. # Excluding two mutual savings banks. Sources: Board of Governors of the Federal Reserve System and Federal Reserve Bank of Cleveland District Developments. Thirteen new banks Ohio. One of the new banks in the county was set during up to serve the needs of the black community in 1965-1970—six in Ohio, three in West Virginia, Dayton. A t present, this bank is operating with three in Kentucky, and one in Pennsylvania. Three total assets of more than $2 million. Three of the new banks were formed in Montgomery County, new banks in the D istrict were converted from were 12 started in the Fourth D istrict FEBRUARY 1971 CHART 1 - COMMERCIAL BANKS FIND B A N K I N G O F F I C E S UNITED STATES AND FOU RTH DIST RI CT INDEX 1 9 6 5=100 150 NUMBER OF B A N K S UNITED STATES 100 FOURTH OISTRICT 75 END OF Y E A R R A T I O SCALE LAST ENTRY: DEC. 31. 1970 S O U R C E S OF DATA: BO A R D OF G O V E R N O R S OF THE F E O E R A L R E S E R V E S Y S T E M AND FEOE R A L R E S E R V E B A N K OF C L E V E L A N D 13 ECONOMIC REVIEW TABLE II mergers took place in only one-fourth of the Number of De Novo Starts* in the Fourth District By County (Major City) December 31, 1965 to December 31, 1970 counties in the Fourth District, merger activity De Novo Starts Ohio Cuyahoga (Cleveland) Montgomery (Dayton) Portage (Kent) 6 2 3 1 Pennsylvania Allegheny (Pittsburgh) 1 1 occurred in 58 percent of the counties in the District portion 3 1 1 1 West Virginia Hancock (Weirton) Ohio (Wheeling) 3 1 2 Pennsylvania. Nearly 38 percent o f Ohio's counties were involved mergers, while the Kentucky portion in o f the District had bank mergers in only 5 percent o f its counties (see Table III). The largest number of mergers (7) Kentucky Boyd (Ashland) Fayette (Lexington) Pulaski (Somerset) of (Pittsburgh), took place in Allegheny County Pennsylvania, while four Ohio counties (Adams, Licking, Wayne, and Williams) had two mergers each. Based on the total number of banks in the region's states or portions of states at the end of 1965, 14 percent of the banks in the Fourth District were involved in a merger between 1965 and 1970. However, the merger pattern among * New banks. banks differed throughout the District. In the Source: Federal Reserve Bank of Cleveland saving and loan associations. Kentucky portion of the District, only 4 percent Two of these of the banks were involved in mergers, while in the conversions took place in Ohio County (Wheeling), Pennsylvania portion 40 percent of the banks West Virginia, and one in Cuyahoga County participated in merger activity. Nearly 12 percent (Cleveland), Ohio (see Table II). The average of Ohio's banks were involved in mergers from number o f new banks started per year in the 1965 to 1970, while banks in the West Virginia District was lower in the 1965-1970 period, (2 portion of the District had no merger activity 1/2) than in the previous five-year period (four during the period. starts per year during 1960-1964). This may partially reflect the fact that to compete Determining Legislation. The wide variations among Fourth District states in the share of banks effectively in many banking markets today, new involved in mergers may be partially attributed to banks must begin w ith a much larger capital base the banking laws in each state. Banks in states w ith than was previously necessary. less restrictive branch banking laws can generally Commercial banks in the Fourth District were be expected to have a larger number of mergers, involved in 59 mergers4 during the 1965-1970 since it would be less likely that a merger would be period. Ohio had 31 mergers, the Pennsylvania denied by Federal portion o f the District had 25, and the Kentucky anticompetitive portion o f the District had 3. Although bank deterrant 4 A merger is defined as the purchase or absorption of one to regulatory grounds. bank authorities on Since a major legal mergers is the possible elimination o f competition between the banks bank by another which results in an elimination of an involved, independent banking unit. would automatically provide banks w ith a wider 14 less restrictive branch banking laws FEBRUARY 1971 TABLE III Number o f Mergers and Acquisitions of Banks in the Fourth District By County December 31, 1965 to December 31, 1970 State Number of Counties Number of Counties In Which Mergers and Acquisitions Occurred Percent of Counties In Which Mergers and Acquisitions Occurred 88 27 19 56 11 30.7% 57.9 5.4 - 024.3% Ohio Pennsylvania Kentucky* West Virginia Total 3 6 - 041 169 Number of Counties With: Number of Mergers and Acquisitions - One Merger 31 25 3 059 - 23 5 3 031 2 -5 Mergers 4 5 More Than 5 Mergers - 01 - 0- - 0- - 09 - 01 * In addition to three mergers, Kentucky also had one bank closing in 1970 that reduced the number of banks in the state by one. Source: Federal Reserve Bank of Cleveland selection of potential merger candidates. A t the influence of the home office protection rule was same time, less restrictive branching laws allow reflected in the merger activity in the Fourth other banks to compete w ith the merging banks by District portion of Kentucky, where only 4 branching into their market area. For example, the percent of the banks were involved. West Virginia Pennsylvania portion of the District, which had does not permit any branch banking; thus, the the largest share of banks and counties involved in portion of West Virginia located in the Fourth mergers in the period under review, has the least District did not have any bank merger activity restrictive from 1965 to 1970. branch banking laws. Banks in Pennsylvania can establish branches w ithin their Changes Within the District. Net changes in the home office county and in all counties contiguous number of banks, branches, and banking offices to the home office county. Ohio, which had the w ithin the Fourth D istrict from 1965 through second largest share o f banks participating in 1970 are shown in Table I and Chart 2. In the branches Pennsylvania portion of the District, the number throughout their home office county but not of banks declined by 19 percent during the period. mergers, permits banks to open outside that county.5 In Kentucky, banks may The number of banks fell by nearly 5 percent in also branch throughout their home office county, Ohio and by less than 1 percent in the Kentucky but a home office protection rule limits banks portion from into certain areas w ithin the District portion o f West Virginia, the number of county where other banks are located. This rule banks increased by 13 percent.6 The decline in the g branching makes the Kentucky banking laws slightly more restrictive than the Ohio laws. The restrictive 5 of the District, while in the Fourth Since the number of banks in the six-county portion of West Virginia is small, any structural changes will show up Registered bank holding company acquisition of banks as a large percentage. For this reason, only selected throughout Ohio may partially be a response to the reference will be made to this portion of the Fourth branch banking laws in the State. District. 15 ECONOMIC REVIEW CHART 2. COMMERCIAL BANKS AND BAN KIN G- O F F I C E S FOURTH DISTRICT INDEX 1965=100 RA T I O SC A L E LAST ENTRY: DEC. 31. 1970 SOU R C E OF OATA: F E D E R A L R E S E R V E B A N K OF C L E V E L A N D Digitized for16 FRASER E N D OF YEAR FEBRUARY 1971 number o f banks in three o f the states or portions had an increase in the number of banking offices of states in the District can be attributed almost because three new banks were added during the entirely to the merger activity in each area. The period. only exception was in the District portion of Kentucky where one bank failure occurred during 1970. In addition to the 5 percent decline in the CHANGES BY BANKING M ARKET AREAS number o f banks through mergers in Ohio, the A geographical banking market is generally state experienced 34 acquisitions of banks by defined as an area encompassing all those banking registered the offices that exert and react to essentially the same five-year period.7 Thus mergers and registered set of competitive forces (over some time period) bank holding company acquisitions o f banks that influence the price and quality of banking banking services in that area.10 In cases where one major organizations operating in Ohio from 517 to 458, city or town in a county accounts fo r most of the or by 11.41 percent.8 e co n o m ic a c tiv ity geographical banking market can generally be a c tu a lly bank holding reduced the companies number of over In contrast, the explosive growth in branch banking in the District is apparent from the data in a p p ro x im a te d Table metropolitan I. As indicated earlier, the number of by areas, that that the takes place, county alone. geographical the In banking branches in the District as a whole increased by 34 market may extend to several counties. In many of percent during the 1965-1970 period; however, these cases, an SMSA can be used to approximate growth was uneven among the states or portions of the banking market area. Data were collected on states in the District. The number of branches changes in the number of banks, branches, and expanded by 27 percent in the District portion of banking offices by county and SMSA11 for the Pennsylvania, by 37 percent in Ohio, and by 49 state and portions of states w ithin the Fourth percent in the Kentucky portion of the District.9 District. The number of banks increased in only 7 of the Branch banking is prohibited in West Virginia. Despite the decline in the number of banks 169 counties in the Fourth District, and all seven during 1965-1970, the number of banking offices counties are located w ithin SMSAs. In the Dayton, in the Fourth District increased by 20 percent, Cleveland, and Wheeling SMSAs, there was an reflecting the greater number of branches. Ohio increase of two banks each, while in the four other had the largest growth in banking offices, followed 10 by Pennsylvania and Kentucky. West Virginia also mined, see R. H. Gelder and George Budzeika, "Banking 7Ohio is the only state in the Fourth District that has any registered bank holding companies. For a discussion of how a banking market is deter Market Determination—The Case of Central Nassau County," M o n th ly Review, Federal Reserve Bank of New York, November 1970, pp. 158-165. O Banking organizations are defined as all registered bank holding companies plus all banks n o t affiliated with a 11 The Fourth District consists of all or parts of 19 registered bank holding company, SMSAs which include g District. Three of the SMSAs (Toledo, Ohio, Cincinnati, The Fourth District portion of Kentucky had a relatively Ohio, 45 of the 169 counties in the Huntington-Ashland, West Virginia, Kentucky) small number of branches at the end of 1965, which include counties outside the District; those counties are accounts for this significantly high percentage increase. not included in the data discussed here. 17 ECONOMIC REVIEW SMSAs, there was a net increase of one bank. At during the 1965-1970 period; 65 counties had no the same time, 40 o f the counties in the District change. Only one SMSA county (Boone County, had a decrease of one or more banks. Of these 40 Kentucky, which is part of the Cincinnati SMSA) counties, 17 are in SMSAs. The Pittsburgh SMSA had a reduction in banking offices—one bank was had the largest number of bank losses of any area closed in 1970 and there were no changes in in eliminated branches. Of the 65 counties that showed no through merger activity. In more than two-thirds change in banking offices, only four were located of the counties in the District (122), however, in District SMSAs. On the other hand, 10 counties the D istrict—nine banks were there was no net change in the number of banks in the D istrict experienced an increase o f ten or during the more banking offices, and all were in SMSAs. In counties. period, and only 21 were SMSA In other words, the changes in the fact, these 10 counties accounted fo r nearly number of banks tended to be concentrated in the one-half o f the increase in the number of banking metropolitan areas in the District. offices in the Fourth D istrict during the The pattern o f changes in branches w ithin 1965-1970 period. The Pittsburgh, Cleveland, and Fourth D istrict banking markets was even more Akron SMSAs had the largest net changes in concentrated in SMSA banking offices, w ith increases of 62,, 47, and 46 counties than was the pattern o f changes in the number of banks. The number o f branches decreased in only one county offices, respectively. The data indicate that, although there was County, Kentucky, a substantial growth in the number o f banking non-SMSA county) and remained unchanged in 58 facilities in the Fourth District as a whole during counties. Only six o f the counties in which the 1965-1970, the non-urban county and SMSA in the District (Lincoln number o f branches did not change were located markets w ithin District SMSAs, and five of these were pattern is revealed more clearly in Table IV, which located portion o f the shows the percent of all new banks, branches, and D istrict—an area that does not allow branch banking offices and bank mergers that occurred in banking. In contrast, all of the 12 counties that SMSA counties in the Fourth District and its state had ten areas. As expected, a significant proportion of the in the West Virginia or more branches established during did not share proportionately. The SMSAs. The new banks, and increases in branches and banking largest number o f branches was started in the offices in the District were in the counties w ithin 1965-1970 were located w ithin (71), w ith the next largest SMSAs. A t the same time, less than 50 percent of increases occurring in the Akron and Cleveland the merger activity occurred in District SMSA SMSAs (45 in each area). counties. Pittsburgh SMSA These figures indicate that while a As expected, changes in the total number of significant portion of the expansion o f new banks banking offices w ithin the District reflect the relative dominance of changes in number of banks and banking facilities occurred in SMSA counties, more than 50 percent o f the independent banks or changes in number of branches, respectively. eliminated Increases in the number of banking offices were populated non-SMSA counties. In the Kentucky widespread throughout the D istrict w ith only and Pennsylvania portions o f the District, 50 three counties out of 169 showing a net reduction percent or more of the new banks, branches, 18 by merger were located in less FEBRUARY 1971 TABLE IV Changes in Banking Structure in SMSA Counties As Percent of Total Changes in the Fourth District December 31, 1965 to December 31, 1970 Number of New Banks Fourth District Ohio Pennsylvania Kentucky West Virginia 92.3% 100.0 100.0 66.6 100.0 Change in Number of Branches Change in Number of Banking Offices Number Mergers 72.2% 74.9 68.6 58.3 -0 - 76.1% 79.1 72.2 57.1 100.0 44.1% 35.5 52.0 66.7 -0 - Source: Federal Reserve Bank of Cleveland mergers occurred w ithin SUMMARY OF STRUCTURAL CHANGES SMSA counties. Ohio, however, was below the Although the number o f banks declined in the banking offices, and District as a whole for the proportion of mergers United States and the Fourth that occurred w ithin SMSAs. That is, in relative 1965-1970, there was a significant increase in the District during terms, more o f the merger activity in Ohio took number of branches and total banking offices. place in the less populated counties and non-urban During the period, 13 new banks were chartered in areas during the 1965-1970 period. Even so, all of the District. However, this expansion was more the new banks, and the bulk of the increase in than offset by 59 bank mergers in sub-areas of the branches and, thus, total banking offices occurred District. In fact, merger activity accounted fo r all w ithin SMSA counties in Ohio. but one of the net 47 banks eliminated in the It should not be surprising that a large portion of the increase in banking offices was in SMSAs in the District. Since the m ajority of Fourth District during 1965-1970. Changes in banks, branches, and banking offices the were unevenly distributed throughout individual population in the Fourth District resides in SMSA county and SMSA banking markets in the District. counties, it could be expected that most economic SMSA counties accounted for a significant portion activity would be concentrated in these areas and, of all new banks, and the increases in branches and thus, a significant portion o f the banking expansion banking offices in the District. In fact, more than would occur in these heavily populated areas. In 90 percent of the new banks, and 70 percent of fact, SMSA counties accounted fo r all but one of the increases in branches and banking offices took the de novo banks in the District, more than place in counties in SMSAs. This is not surprising two-thirds of all the increases in the number of though, since most of the population resides in branches, and more than three-fourths of the SMSA increases in banking offices in the District between econom ic.activity takes place in these urbanized 1965 and 1970. areas. counties, and most of the District's 19
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