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E C O N O M IC R E V I E W

IN THIS ISSUE

What Happens When
the Unemployment
Rate Changes? ............. 3

Defining the Product
Market in
Commercial Banking ..17

JU N E-JU LY 1972

WHAT HAPPENS WHEN
THE UNEMPLOYMENT RATE CHANGES?
Robert A. McMillan
Would a four percent rate o f unemployment today indicate the same labor market
conditions as i t did ten years ago? What about future years? The answers to these questions
have im portant implications fo r the nation's policy makers who are responsible fo r making
decisions fo r the present and establishing goals fo r the future.
This article reports on a study o f the relationships between the aggregate
unemployment rate and the unemployment rates o f various labor market components. The
existence o f stable, predictable relationships would obviously perm it a greater understanding
o f the consequences o f a change in a given unemployment rate by defining the groups who
would be affected and the extent to which they would be affected.
The first step o f the analysis made use o f statistical techniques to establish
the degree to which a given overall unemployment rate is associated with the unemployment
rates o f specific labor market components. Historical series fo r 26 labor markets representing
age-sex, race, industrial, and occupational classifications were used in the computations. The
results indicate that significant statistical relationships do exist between the aggregate
unemployment rate and the component rates. For example, i t is possible to estimate the
effect o f a decrease from a 5 to a 4 percent unemployment rate on the unemployment rates
o f workers in wholesale and retail trade.
The results also indicate a change in the structure o f unemployment over
time and that some groups would be more seriously affected by changes in the overall
unemployment rate now than in the past. I t is possible to identify these groups and their
potential unemployment rates at a given aggregate rate.
In

addition

to exploring

the relationship between the unemployment rate

and the component rates, this study examined the implications o f changes in the overall
rate in terms o f how many people are affected, fo r how long, and why. In general, it
was found that high rates o f unemployment im ply an extended duration o f unemployment,
more people experiencing some unemployment, and a higher proportion o f job losers among
the unemployed.

ECONOMIC REVIEW

W h ile there seems to be a consensus that the
present level of unemployment is higher than

unemployment from

5 to

4 percent have a

disproportionate impact on unemployment rates

optimal, there is no consensus over an appropriate

of various labor market subgroups, such as blue-

unemployment rate.1 The importance that policy

collar workers, teenagers, construction workers,

makers attach to the attainment of alternative, and

and nonwhites? Does a 5 percent aggregate rate

often conflicting, goals such as price stability and

imply a different composition of unemployment

full employment differs. In addition, the problem

today than a decade ago? Who is affected and how

of choosing appropriate unemployment targets is

are they affected?

compounded by compositional changes in the
labor force over the past decade. These changes
have led some observers to suggest that an upward

THE NATURE OF UNEM PLOYM ENT
RELATIONSHIPS

revision in the unemployment goal is appropriate.

It would be impossible to draw systematic

Before a meaningful choice of an aggregate

conclusions about the composition of unemploy

unemployment goal can be made, some questions

ment if individual labor markets responded errat

must be answered about the composition of

ically relative to changes in the overall rate of

unemployment under varying labor market condi

unemployment. Therefore,

tions. It must be determined if the same unem

establish whether or not consistent, reasonably

ployment rate in two different periods implies two

stable relationships exist between individual sub

is important to

widely divergent sets of labor market conditions,

group

and if the difference between two unemployment

unemployment rate.2 The technique of linear

rates, fo r example, 4 and 5 percent, is only one of

regression was used to examine the relationship

scale or if it also represents major changes in the

between the overall rate of unemployment in the

composition of unemployment.
The purpose of this study is to determine the

unemployment rates and the aggregate

United States, as measured by the Bureau of Labor
Statistics, and unemployment rates of selected

implications of the overall unemployment rate on

labor market groups. Quarterly unemployment

individual labor markets and to answer questions

data representing 26 age-sex, industrial, race, and

such as: Does a movement in the aggregate rate of

occupational classifications and extending as far
2

A 4 percent "interim " unemployment goal gained wide
acceptance after it was first officially proposed in 1962
by the Council of Economic Advisors. Recently, the Joint
Economic Committee of Congress advocated a 4 percent
rate as an "interim " goal and a 3 percent rate as a
long-term goal. See U. S., Congress, Joint Economic
Committee, 1972 J o in t Economic Report, (Washington,
D. C.: Government Printing Office, 1972). Others have
stated that a 4 percent unemployment rate is a "m yth" as
a peacetime norm and that pushing the unemployment
rate significantly below 5 percent by monetary and fiscal
policy alone is no longer possible without adding signifi
cantly to inflationary pressures. See Wall Street Journal,
January 21, 1972, p. 26.

This study focuses exclusively on the composition of
unemployment. Other important aspects of unemploy
ment are the effect of changes in unemployment on labor
force participation and hours worked. At high rates of
unemployment, persons might become "discouraged"
after a period of searching for a job and leave the labor
force, and many workers might involuntarily work less
than full time. For example, see this author, "Discouraged
Workers and the Unemployment Rate,” Econom ic
Commentary, Federal Reserve Bank of Cleveland, March
27, 1972; Michael L. Wachter, "A Labor Supply Model
for Secondary Workers," Review o f Economics and
Statistics, May 1972; and Claire Hodge and James Wetzel,
"Short Workweeks and Underemployment," M o n th ly
Labor Review, September 1967.

JU N E-JU LY 1972

back as 1948 were used in the regressions.

The

such as police and fire protection, has little

results of these regressions and a discussion of

relationship

some of the technical details are in the Statistical

demand for other government services may even

Appendix.

expand and require more workers during economic

All 26 equations are highly significant and

overall

economic

conditions;

contractions than during expansions.

indicate a close relationship between the aggregate

Also, both white and nonwhite groups show a

rate of unemployment and the rates of the various

highly

subgroups.4 The high R2's in most of the equa

unemployment rate. Ninety-seven percent of the

tions indicate that the regression equations explain

white group's unemployment rate and 84 percent

by far the bulk of movements in the unemploy

of the nonwhite group's rate could be explained

predictable

relationship to

the overall

ment rate of the groups. For example, the R2 of

by the equations. However, the standard errors of

.95 in the regression for white-collar workers

estimate indicate that the unemployment rate for

indicates that 95 percent of the variation in their

whites conforms more closely with the overall rate

unemployment rate is explained statistically by

than the rate fo r nonwhites.

the aggregate unemployment rate and time trend.
Moreover,

a highly stable and

Finally,

unemployment

rates

fo r

selected

predictable

occupational groups are closely associated with the

relationship is indicated between the aggregate

overall unemployment rate. The unemployment

unemployment rate and rates in manufacturing,

rate of the sales workers group showed the least

wholesale and retail trade, and the services. In the

association w ith the aggregate rate, although the

mining and government wage and salary groups,

bulk of the variations in the unemployment rate

the relationship is not as strong as fo r the other

for this group can be explained by the regressions.

groups. Only 39 percent of the variation in the
unemployment rate of mining workers and 42
percent o f the variation in the unemployment rate

IS UNEM PLO YM ENT MORE
CONCENTRATED?

of government workers can be explained by the

Many economists have been concerned about

regression equations. Government employment is

the changing composition of the labor force and

not as responsive to changes in economic condi

its implications fo r the composition and level of

tions as employment in most private industries.

aggregate

Demand fo r some types of government services,

changes in the composition of unemployment are

Unemployment data are compiled by the U. S. Depart
ment of Labor, Bureau of Labor Statistics from the
monthly C urrent Population Survey of approximately
50,000 households.
4

Even though the periods selected are different, these
results are similar to those derived in Paul M. Ryscavage,
"Impact of Higher Unemployment on Major Labor Force
Groups," M o n th ly Labor Review, March 1970. Also see.
Joint Economic Committee, Higher Unem ploym ent
Rates, 1957-1960: S tru ctu ra l Transform ation o r Inade
quate Demand, Washington, D. C., 1961.

unemployment.5

Unless

structural

For a discussion of the problems of changing labor
composition see G. L. Perry, "Changing Labor Markets
and Inflation," B rooking Papers on Econom ic A c tiv ity , 3,
1970, pp. 411-441; Robert A. Gordon, "Has Structural
Unemployment Worsened," In d ustria l Relations, May
1964, pp. 53-77; Richard G. Lipsey, "Structural and
D e fic ie n t-D e m a n d
Unemployment Reconsidered,"
E m ploym ent Policy and the Labor M arket, ed. Arthur M.
Ross (Berkeley: University of California Press, 1965), pp.
210-255; and, Robert M. Solow, The Nature and Sources
o f Unem ploym ent in the U nited States (Stockholm:
Almquist and Wicksell, 1964).

ECONOMIC REVIEW

taken into consideration, an estimated relationship

women searching fo r jobs in that industry; no

between the aggregate unemployment rate and the

discernible

rates fo r individual labor market groups would not

workers; and a decrease fo r most other groups.

be very accurate as a predictive tool. A time trend

trend

fo r

trade

and

government

No major change is indicated in the unemploy

variable, therefore, was included in the regression

ment rate for whites relative to the aggregate rate.

equations to determine if a given aggregate rate

The rate for nonwhites, however, shows some

implies different group rates at different points in

im p ro v e m e n t

time.6

demand (a more enlightened populace, antidis

(decrease).

Apparently,

both

Results of the regressions show an improvement

crimination laws, etc.) and supply (for example,

(decrease) over time in the adult male unemploy

more education) considerations have favorably

ment rate that is associated with any specific

affected nonwhite employment. This may explain

aggregate rate (see Statistical Appendix for regres

why rates fo r nonwhites that are associated w ith a

sion results and an interpretation of the time

specific aggregate rate are somewhat lower today

variable in the regressions). For the adult female

than a decade ago.

group, there is no indication of a change in the

The regressions indicate that unemployment

unemployment rate associated w ith a given aggre

has become less concentrated among blue-collar

gate rate. The teenage unemployment rate associ

workers and more concentrated among white-

ated w ith a specific overall rate, however, shows a

collar workers.

dramatic worsening

technical workers and clerical workers experience

(increase)

over time.

For

In particular, professional and

example, over the last decade, the teenage unem

somewhat

ployment rate associated with a given aggregate

specific aggregate rates now than in the past. This

rate increased over 2 percentage points. This is

may reflect some difficulties in absorbing the

most likely a result of the tremendous increase in

increasing supply of workers with more training

higher

rates

unemployment

the number of teenagers in the labor force since

and education in the labor market, as well as a

the late 1950's and a somewhat smaller expansion

slackened demand, particularly

of job opportunities for this group.7

space industries. A t the same time, unemployment

in defense and

With respect to industrial classifications, the

among craftsmen and foremen and laborers has

regressions indicate an increase in the unemploy

been moderating relative to the aggregate unem

ment rates fo r finance, insurance, and real estate

ployment rate.

workers, relative to a given overall rate (in part
because of rapid increases in the number of
0
The time trend variable tells whether or not a particular
aggregate rate today implies a different, perhaps higher
rate (if the coefficient is positive), for a group than the
same rate did at some previous point in time.

IMPLICATIONS OF CHANGES IN
RATES OF UNEMPLOYMENT
The

regression

equations

discussed in

the

preceding sections have established that stable and
predictable relationships exist between the overall
unemployment rate and the rates fo r labor market

^Between 1960 and 1971, the number of teenagers in the
labor force increased from 4.8 million to 7.4 million. This
represented an increase of 54 percent compared with only
a 21 percent increase in the total civilian labor force.

groups as defined by age, sex, industry, race and
occupation.

It was also established

that the

composition of unemployment associated w ith a

JUN E-JULY 1972
TABLE I
Projected Group Unemployment Rates at
Selected Aggregate Rates of Unemployment
Projected Rates
Based on 5.0%
Aggregate Rate
for I Q 1973

Based on 4.0%
Aggregate Rate
for I Q 1974

Point
Change

Percent
Change

Age-Sex
1
2
3

Both sexes 16-19
Males 20 and over
Females 20 and over

16.7%
3.7
4.8

15.2%
2.7
4.0

1.5
1.0
0.8

-9 .6 %
- 2 8 .0
- 1 6 .3

5.5
4.7
9.6
5.4
5.3
4.5
4.9

3.7
2.2
7.3
3.8
3.4
3.3
4.1

1.8
2.5
2.3
1.6
1.9
1.2
0.8

- 3 1 .8
- 5 2 .6
- 2 4 .3
- 2 9 .6
-3 6 .1
- 2 6 .2
- 1 7 .5

Industries
Nonagricultural goods production
Mining
Construction
Manufacturing
Durables
Nondurables
Service industries
Transportation and
public utilities
Trade
Finance,insurance and
real estate
Government

2.9
5.4

1.8
4.4

1.1
1.0

- 3 9 .2
- 1 7 .2

3.0
2.3

2.8
1.9

0.2
0.4

-9 .2
- 1 4 .9

Whites
Nonwhites

4.4
8.4

3.5
6.8

0.9
1.6

- 2 0 .6
- 1 9 .7

3.4

3.0

0.4

- 1 3 .0

2.4

2.0

0.4

- 1 6 .5

1.2
4.4
3.5
5.6
3.5
7.1
8.9
5.1

0.9
3.8
3.0
3.9
2.3
5.3
6.7
4.3

0.3
0.6
0.5
1.7
1.2
1.8
2.2
0.8

- 2 3 .0
-1 4 .1
- 1 5 .8
- 3 0 .7
-3 5 .1
- 2 5 .5
- 2 4 .9
- 1 6 .0

4
5
6
7
8
9
10
11
12
13
14
Race
15
16

Occupations
17
18
19
20
21
22
23
24
25
26

White collar
Professional and
techinical
Managers, officials
and proprietors
Clerical
Sales
Blue collar
Craftsmem and foremen
Operatives
Nonfarm laborers
Service

Source: Federal Reserve Bank of Cleveland

specific

overall

rate of unemployment today

differs from that which accompanied the same
overall rate in the past; that is, unemployment is

unemployment at a given overall rate and the
effect of changes in the aggregate rate.
Who Is Affected by a Given Unemployment

more concentrated in certain labor markets today

Rate? The implications of given aggregate unem

than it was form erly, and less concentrated in

ployment rates fo r the various labor force groups

others. This section deals with the composition of

can be seen from the data presented in Table I.

ECONOMIC REVIEW

Some groups, such as teenagers, construction

duction in the adult male unemployment rate is

workers, laborers, and nonwhites, have higher than

much larger than the reduction in the rate for

average unemployment rates, no matter what the

teenagers, the p o in t change in the rate for teen

aggregate unemployment rate is. Other groups,

agers is somewhat larger than the change in the

such as adult males and professional and technical

adult male rate (1.5 compared w ith 1.0). The

workers,

For

difference in the two measures occurs because the

example, the distribution of unemployment based

average unemployment rate fo r teenagers is so

have lower than

average rates.

on a hypothetical 5.0 percent aggregate rate for

much higher than the adult male rate that the

the first quarter of 1973 shows a 16.7 percent rate

same percentage change translates into a higher

for teenagers, which is more than three times the

p o in t change.

aggregate rate. Among industries, unemployment

percent in the aggregate unemployment rate would

A change from 5 percent to 4

rates fo r workers in durable goods and trade are

imply approximately a 20 percent reduction for

somewhat above the 5 percent aggregate rate,

both the white and nonwhite groups, but the point

while the rate fo r construction workers is nearly

change for nonwhites would be almost twice as

twice the overall rate. Conversely, the rates for

large as the change fo r whites.

g o ve rn m e n t

workers

and

professional

and

Among

the

broad

workers

occupational

benefit

much

groupings,

technical workers are less than one-half the overall

blue-collar

rate.

white-collar workers by a reduction in the overall

more than

Who is Affected by a Change in the Unemploy

unemployment rate, as indicated by both measures

ment Rate? The effects of changes in the overall

of change. Likewise, by both measures, govern

unemployment rate on individual labor markets

ment and the finance, insurance and real estate

can be examined using the regression results. For

groups benefit less from a reduction in the overall

example, the hypothetical case in Table I presents

rate than the construction and manufacturing

the projected distribution of unemployment at an

group. Of course, it should be pointed out that

assumed overall unemployment rate of 5.0 percent

these equations imply that the groups benefiting

in the first quarter of 1973 and the distribution if

the most from a reduction in unemployment are

the unemployment rate were reduced to 4.0

also hurt the most by an increase.

percent by the first quarter of 1974.8 The table

HOW ARE THE UNEMPLOYED
AFFECTED?

shows that such a reduction would have different
impacts on the various labor market groups. For

A change in the overall unemployment rate

example, such a change (20 percent) in the overall

implies changes not only in the specific groups

unemployment rate would entail about a 28

experiencing

percent reduction in the unemployment rate of

number of

adult

number of weeks they are unemployed, and the

males compared with reductions of 10

percent and

unemployment,

but also in the

people who are unemployed, the

16 percent for teens and adult

reasons fo r their unemployment. These aspects of

females, respectively. While the percentage re-

unemployment are examined in the remaining

g
These dates were selected for purposes of exposition and
do not represent a projection of unemployment rates for
these periods.

sections of this article. Although in many cases,
data are limited

(for example, data series on

reasons fo r unemployment are available fo r only

JU N E-JU LY 1972
TABLE II
Average Unemployment, Total Number of Individuals with Unemployment,
and Average Weeks of Unemployment per Person Experiencing Unemployment
1957-1970

Unemployment
Rate

Average
Number
Unemployed

Total Number
Unemployed
During Year

Average
Weeks of
Unemployment
Total During
Year

4.3
6.8
5.5
5.5
6.7
5.5
5.7
5.2
4.5
3.8
3.8
3.6
3.5
4.9

2,859
4,602
3,740
3,852
4,714
3,912
4,071
3,785
3,365
2,878
2,977
2,816
2,832
4,088

11,423
13,977
11,994
13,950
14,898
15,057
14,010
13,839
12,131
11,387
11,564
11,332
11,744
14,565

13.0
17.1
16.2
14.4
16.5
13.5
15.1
14.2
14.4
13.1
13.4
12.9
12.5
14.6

1957
1958
1959
1960
1961
1962
1963
1964
1965
1966
1967
1968
1969
1970

NOTE: Data refer to individuals 16 years and over; the figures for total
individuals with unemployment before 1965 have been adjusted to exclude
14 and 1 5 year olds.
Sources: U. S. Department of Labor and Federal Reserve Bank of Cleveland

the last five years), they do permit some tentative

example, when the unemployment rate increased

conclusions. In general, it w ill be shown that rising

from 3.5 percent in 1969 to 4.9 percent in 1970,

rates of unemployment imply a lengthening in the

it reflected a rise in the average n u m b er u n e m

duration of unemployment, a larger number of

ployed from 2.8 to 4.1 m illion persons. During the

people experiencing some unemployment, and a

same period, the total number of people experi

higher proportion of job losers.

encing some unemployment rose from 11.7 to

Numbers Experiencing Unemployment. During
periods

rising

unemployment,

such

14.6 m illion persons, while the average number of

weeks that they were unemployed rose from 12.5

1957-1958, 1960-1961, and 1969-1970, both the

to 14.6. The same pattern is evident in other

total number of people experiencing some unem

periods of rising unemployment, indicating that

ployment and the average number of weeks they

higher unemployment is reflected in both the

were unemployed increased (see Table II).9 For
cj

number unemployed as well as the number of

The number of unemployed can be looked at in two
ways the average number unemployed at a point in time
and the total number experiencing one or more periods of
unemployment during a year. The total number of
unemployed excludes those who did not work at least one
week out of the year. The average number of weeks of
unemployment refers to a total for a year, rather than the
average length of any one period of unemployment.

weeks unemployed.
Time Spent in Unemployment. Disaggregation
of data on "number of weeks unemployed” into
Bureau of Labor Statistics' groupings o f 1-4 weeks,
5-14 weeks, and 15 weeks and over shows that, at
high unemployment rates, the number of people
9

ECONOMIC REVIEW

CHART 1
DISTRIBUTION OF UNEMPLOYMENT BY TOTAL WEEKS OF UNEMPLOYMENT
Percent of Total Unemployment

1957

'59

'61

'63

'65

'67

'69

'71

NOTE: Shaded areas indicate years when over 11 million persons experienced some unemployment.
Last entry: 1970
Source: U. S. Department of Labor

experiencing over 15 weeks unemployment within

can also be identified.

a year increases dramatically. In periods of high

In addition to examining the proportion of

unemployment, such as 1958 and the early 1960's,

total unemployed in the three categories, it is also

the proportion of unemployed with less than 5

important to look at the change in the numbers of

weeks of unemployment was low, while in periods

unemployed by length of unemployment because

of low unemployment, such as 1967-1969, the

the two measures may yield somewhat different

less-than-5-weeks group typically constituted a

conclusions. For example, a large change in the

much larger share of the total with unemployment

total number w ith unemployment could bespread

(see Chart 1). On the other hand, the group with

among the categories in such a way as to leave the

unemployment over 15 weeks made up a much

proportion

larger share of the total in high unemployment

numbers in each group increased appreciably. The

years and a smaller share in low unemployment

number of individuals who experience 1-4 weeks

years. The proportion of unemployed in the group

of unemployment has been trending upward (see

the

same,

although

the

absolute

5-14 weeks unemployment did not vary

Chart 2). This probably reflects both a larger total

greatly in the period studied. Therefore, just as the

workforce and increases in the number of women

composition of those who are unemployed at low

and teenagers in the workforce, as women and

with

and high unemployment rates can be identified, it

teenagers have a preponderance of short-term

is apparent from this analysis that the amount of

unemployment. Since 1957, there has been little

time spent in unemployment at high and low rates

correspondence between changes in the number

J U N E -J U L Y 1972

CHART 2
NUMBER OF PERSONS WITH UNEMPLOYMENT BY NUMBER OF WEEKS UNEMPLOYED
Millions of Persons

Last entry: 1970
Source: U. S. Department of Labor

experiencing unemployment and the number with

Although the data are limited to the period

1-4 weeks of unemployment. Conversely, the

since 1962, the adult male group appears to

number experiencing 15 weeks or more of unem

account

ployment has moved closely with the total unem

15-weeks-and-over unemployment category as the

fo r

most

of the shifts toward

the

ployed. This suggests that high levels of unemploy

total number w ith unemployment rises and away

ment involve a substantially greater number of

from that category as total unemployment falls

weeks of unemployment fo r the unemployed than

(see Table III). The adult female and teenage

do low levels.10

groups also contribute to the lengthening in the

unemployment structure.

For a discussion of long-term unemployment see Susan
S. Holland, "Long-Term Unemployment in the 1960's,"
M o n th ly Labor Review, September 1965, pp. 1069-1076;
or Edward J. O'Boyle, "America's Less Fortunate: The
Long-Duration Unemployed," M o n th ly Labor Review,
April 1970, pp. 35-43.

It should

be noted that at any

unemployment,

teenagers

with

level of

unemployment

tend to be clustered in the 1-4 weeks group far
more than adult men and considerably more than
11

ECONOMIC REVIEW
11

TABLE III

many

Part-Year Workers* by Number
of Weeks Unemployed
(Thousands of Workers and Percent Distribution)
1962-1970

comprehensive, regularly published series of data

Year

Total

1-4
Weeks

5-14
Weeks

15 Weeks
and Ovei

16-19 Years Old
1962
1963
1964
1965
1966
1967
1968
1969
1970

1,631
1,457
1,682
1,743
1,720
1,808
1,877
1,824
1,915

36.5%
34.3
39.0
46.5
51.3
53.1
53.0
53.0
38.5

31.7%
34.5
30.7
29.0
27.7
27.9
26.9
28.3
32.4

31.9%
31.2
30.2
24.4
21.0
19.0
20.2
18.3
29.0

7,044
6,308
6,009
4,945
4,236
4,239
3,952
4,353
6,013

19.1
19.7
21.6
24.9
30.4
29.4
34.0
31.5
23.0

38.8
38.4
40.2
39.9
40.6
42.1
39.7
40.9
41.3

42.1
41.9
38.2
35.2
29.1
28.5
26.3
27.6
35.7

3,467
3,302
3,471
2,931
2,888
2,883
2,968
3,008
3,736

unemployment,

on the reasons fo r unemployment covers only the
period since 1967. The data, however, do cover
periods of tight and slack labor markets. Table IV
shows the

distribution

1967-1971

by reason fo r unemployment. Less

unemployment for

than one-sixth of the average number unemployed
in any of those years were people who were
working but left their last job. Likewise, less than
one-sixth of the unemployed were new entrants.
Those who lost their last job made up the largest
proportion of the unemployed, with reentrants the
in 1970 and 1971, the number of persons who lost
their last job increased dramatically as a propor
tion of the total unemployed.
Among the adult male group, loss of job was far
and away the primary reason fo r unemployment.
In the adult female group, job losers were also very
important, although not to the extent that they

Females 20 and Over
1962
1963
1964
1965
1966
1967
1968
1969
1970

for

next largest group. When unemployment increased

Males 20 and Over
1962
1963
1964
1965
1966
1967
1968
1969
1970

explanations

28.7
27.6
30.5
35.8
40.9
39.9
43.6
42.5
31.6

34.3
32.0
32.4
34.0
30.8
33.3
32.0
31.2
34.4

37.0
40.4
37.1
30.2
28.3
26.7
24.4
26.6
34.0

were in the adult male group. In the teenage
group, reentrants and entrants accounted fo r most
of the unemployed.

* Worked at least one week during year.
Source: U. S. Department of Labor

adult women. In turn, unemployment of adult
women is clustered in the 1-4 weeks group more
than unemployment of adult men. Compared with
the adult male unemployment group, the adult
female group has about the same proportion in the
15-weeks-and-over unemployment category, but a
far smaller proportion in the 5-14 weeks category.
Reasons for Unemployment. While there are
12

Some economists have suggested that high unemploy
ment rates are predominately the result of increased
frictions in the market; i.e., that individuals search longer
for jobs, often as a result of imperfect information and
unrealistic wage expectations. See for example, Armen A.
Alchian, “ Information Costs, Pricing, and Resource
Unemployment," Western Econom ic Journal, June 1969,
pp. 109-128. These authors treat much of the unemploy
ment as a voluntary phenomenon. However, in times of
high unemployment, declining quit rates and an increasing
number of job losers cast doubt on frictional and
voluntary unemployment as adequate explanations of the
high unemployment rates.

JU N E-JU LY 1972
TABLE IV
Unemployed Workers by Reasons for Unemployment
(Percent Distribution of Annual Averages)
1967-1971
Total
Lost last job
Left last job
Reentered labor force
New entrant
Males 20 years and over
Lost last job
Left last job
Reentered labor force
New entrant
Females 20 years and over
Lost last job
Left last job
Reentered labor force
New entrant
Both Sexes 16-19 years
Lost last job
Left last job
Reentered labor force
New entrant

1967

1968

1969

1970

1971

100.0%

100 .0 %

40.9
14.6
31.4
13.2

38.0
15.3
32.3
14.4

35.9
15.4
34.1
14.6

44.3
13.4
30.0
12.3

46.3
11.8
29.4
12.6

100.0

63.9
15.6
18.3
2.4

60.3
16.8
20.6
2.2

57.7
17.0
22.4
2.8

65.1
12.8
19.4
2.7

66.3
11.4
19.6
2.7

100.0

36.9
16.5
41.7
5.0

34.6
17.0
42.8
5.6

33.0
16.8
44.8
5.4

40.5
15.9
39.3
4.3

42.2
14.2
39.3
4.3

100.0

17.6
10.9
34.6
36.9

15.5
11.6
33.5
39.3

14.8
11.8
34.5
38.8

18.1
11.4
34.3
36.3

18.5
9.2
32.5
39.8

Source: U. S. Department of Labor

From the data available, it appears that rising

only did the number of job losers increase dispro

unemployment rates are closely associated with an

portionately to the other groups, but the amount

increase in job losers among the unemployed. Even

of time spent in unemployment by job losers also

though the composition of unemployment by

increased disproportionately. For example, when

reason is different in the teenage, adult male, and

unemployment increased by 1.9 m illion persons

adult female groups, there was a sizable increase in

between 1969 and 1971, some 1.3 m illion were

the proportion of job losers in all of these groups

job losers. The percentage of job losers who were

when unemployment rose between 1969-1971.

unemployed 15 weeks or more rose from 17.6% to

Based on data since 1968, job losers experi

31.0%.

Although

the

percentage

leavers,

enced longer duration unemployment than job

entrants, and reentrants with long-term unemploy

leavers, new entrants, or reentrants (see Table V).

ment also increased, the increase among these

In addition, when unemployment increased, not

groups was not as dramatic.

ECONOMIC REVIEW
(1)

TABLE V
Unemployment by Reason and Length
(Thousands of Workers and
Percent Distribution of Annual Averages)
1968-1971
Total
Unemployed

Less
Than 5
Weeks

5-14
Weeks

2,817
2,831
4,088
4,993

1,070
1,017
1,809
2,313

15 Weeks
and Over

28.8%
29.2
31.5
31.6

14.6%
13.2
16.1
23.7

49.4
50.6
44.6
36.3

31.4
31.8
34.7
32.7

19.2
17.6
20.7
31.0

o f unemployment than the

makeup of the unemployed.
(2) A high aggregate rate of unemploy
distribution of unemployment than a low
rate. Also, an increase or decrease in aggre
gate unemployment has an uneven impact
on the various labor market groups. For
example,
blue-collar

relative terms, adult males,
workers,

and

manufacturing

workers are disproportionately affected by
431
436
549
587

59.6
60.6
57.3
46.3

26.0
27.8
28.5
32.5

14.4
11.7
14.3
21.2

909
965
1,227
1,466

407
413
503
627

changes in aggregate unemployment.
(3) Different overall rates of unemploy
ment are associated w ith differences in the
way the unemployed are affected. A t higher

61.9
62.3
59.4
54.2

27.4
26.4
28.6
29.5

10.7
11.3
12.0
16.3

60.7
60.3
57.1
52.2

27.8
30.8
30.4
31.6

11.6
8.9
12.5
16.3

Never Worked Before
1968
1969
1970
1971

a different

ment at a point in time implies a different
56.6%
57.5
52.3
44.7

Reentered Labor Force
1968
1969
1970
1971

implies

the age, sex, race, occupation, and industry

Left Last Job
1968
1969
1970
1971

today

same rate, say, a decade ago, w ith respect to

Lost Last Job
1968
1969
1970
1971

specific aggregate rate o f un

composition

Total Unemployed
1968
1969
1970
1971

employment

average rates of unemployment, both a
larger number of people are affected and the
number of weeks of unemployment are
greater. Moreover, the proportion of those

Source: U. S. Department of Labor

w ith long-term unemployment rises, while
the proportion of those w ith short-term
unemployment falls. Finally, the reasons for
unemployment differ. For example, at high
rates of unemployment, job losers represent
a much larger proportion of the unemployed

SUMMARY AND CONCLUSIONS

than at low rates.

This study concludes that there are identifiable

The implications of these findings suggest that

and reasonably stable relationships between the

the consequences of specific aggregate unemploy

overall unemployment rate and rates fo r individual

ment targets on various labor market groups in

labor markets. As a result, the impact of various

terms o f

aggregate unemployment rates on individual labor

unemployment can be predicted w ith a reasonable

length, amount, and distribution of

market groups can be estimated, and the groups

degree of certainty. However, it is important to

who are affected the most by a change in the

note that the difference between alternative aggre

aggregate rate can be ascertained. It was also

gate unemployment rates is not simply a matter of

fou nd:

scale.

JU N E-JU LY 1972

STATISTIC AL APPENDIX
This Appendix reports the results of regressions

.056 on the time variable in the regression for

that examine the relationship between the aggre

teenage group indicates that for a given aggregate

gate unemployment rate and the unemployment

rate o f unemployment in any quarter, the teenage

rate of various labor market groups. In each case,

rate w ill be .056 of a percentage point higher than

the dependent variable is the unemployment rate

it would have been the previous quarter given the

of various labor market groups, classified by age,

same aggregate rate.

sex, race, industry, and occupation. Each equation
has tw o independent variables—the aggregate rate

A simple test was constructed to determine if
there

is a different relationship between the

of unemployment and a time trend. The regression

aggregate unemployment rate and the rate fo r

equations fo r

various individual groups at high levels of unem

age, sex, and industry employ

quarterly data from the first quarter of 1948

ployment from the relationship at low levels. If

through the first quarter o f 1972. The regressions

this were the case, a regression model in which the

for unemployment rates by race use data fo r the

aggregate unemployment rate was entered linearly

period first quarter of 1954 through first quarter

would be a biased, inefficient tool in forecasting

1972, and the occupational data cover the first

the composition o f the labor force at various

quarter of 1958 through the first quarter of 1972.

aggregate unemployment rates. In order to test for

The time periods fo r race and occupation were

this possible source of bias, the regressions were

shorter because data fo r earlier years are not

run again w ith the data reordered according to size

available.

of the aggregate unemployment rate. A careful
appears in various

check of the Durbin-Watson statistic and the

original regressions. The results reported in the

pattern of residuals was then made to determine if

Table are adjusted fo r serial correlation through

the equations were misspecified. In no case was

the Cochran-Orcutt transformation. In no case was

the Durbin-Watson statistic less than 1.39, and in

more than one iteration required, and there were

most cases it was 1.80 or higher, indicating that

no substantial changes introduced in the coeffi

"serial" correlation (which here would imply a

cients by. this process.

systematic relationship other than a linear one

Some

serial correlation

The coefficient on the aggregate rate of unem
ployment in each regression shows the association

betw een

aggregate

unemployment

and

the

dependent variable) was not a problem. However,

between movements in the aggregate rate and

it should be noted, that at high aggregate rates,

movements in individual market unemployment

there was some tendency to overestimate the

rates. For example, the coefficient of .99 in the

teenage rate and to underestimate the white-collar

"males 20 and over" regression indicates that a

rate. A t low aggregate rates, the regression tended

movement of one percentage point in the aggregate

to underestimate the manufacturing rate and to

rate is associated w ith a .99 percentage point

overestimate the construction

change in the unemployment rate of adult males.

none of these groups exhibit behavior that would

rate. To repeat,

The coefficient on the time variable measures

make it necessary to estimate different equations

whether

becoming

at different aggregate unemployment rates, and

among various labor

corrections can readily be made fo r the small

not

unemployment

increasingly concentrated

market groups. As an example, the coefficient of

biases discussed.
15

Regression Results of Relationships Between Unemployment Rates of
Individual Labor Market Groups and the Aggregate Unemployment Rate
Selected Time Periods By Quarters
Dependent Variable
Unemployment Rate

Constant

Aggregate
Unemployment
Rate

Time
Variable

Adjusted
R2

F Test

DurbinWatson

Standard
Error o
Estimat

Age-Sex 1948 I - 1972 I
1

Both sexes 16-19

Males 20 and over

Females 20 and over

1.54
- 0 .2 7
0.89

1.85
(17.50)
0.99
(44.85)
0.78
(26.87)

0.056
(9.59)
- 0 .0 1 3
(-1 0 .0 3 )
0.001
(0.57)

.82

212.80

2.02

.59

.96

1030.15

2.17

.12

.89

365.00

2.09

.19

1.66
(33.37)
2.25
(7.29)
2.21
(17.13)
1.57
(26.41)
1.89
(21.00)
1.09
(21.20)
0.86
(25.76)
1.05
(16.51)
0.92
(26.01)
0.32
(11.93)
0.34
(8.28)

-0 .0 1 9
(-4 .4 4 )
-0 .0 5 2
(-3 .4 0 )
- 0 .0 2 8
(-4 .2 1 )
- 0 .0 1 5
(-2 .8 2 )
-0 .0 1 4
(-1 .7 6 )
-0 .0 1 5
(-5 .9 2 )
-0 .0 0 4
(-2 .8 5 )
- 0 .0 2 0
(-6 .8 2 )
0.001
(.61)
0.008
(7.19)
-0 .0 0 1
(-0 .5 5 )

.92

561.15

2.08

.23

.39

30.74

2.20

2.01

.76

151.19

1.99

.79

.88

350.04

2.09

.28

.82

220.97

2.06

.42

.83

234.40

2.07

.33

.87

331.97

1.85

.38

.76

151.70

2.06

.50

.88

341.56

2.03

.26

.69

106.28

1.79

.31

.42

34.30

2.01

.23

0.91
(70.39)
1.58
(18.31)

0.001
(1.43)
-0 .0 1 7
(-3 .0 7 )

.97

2535.83

2.24

.07

.84

182.39

2.01

.35

0.52
(32.56)
0.47
(13.25)
0.28
(16.20)
0.70
(25.46)
0.56
(8.70)
1.64
(23.26)
1.15
(23.20)
1.86
(17.55)
2.02
(20.63)
0.78
(14.07)

0.015
(13.80)
0.020
(8.01)
0.003
(2.30)
0.018
(9.69)
0.005
(0.92)
-0 .0 1 5
(-2 .4 8 )
- 0 .0 2 0
(-5 .7 3 )
0.005
(0.48)
-0 .0 5 3
(-7 .7 0 )
- 0 .0 0 5
(-1 .3 0 )

.95

539.51

1.61

.11

.77

88.85

1.86

.17

.86

167.40

1.83

.12

.93

341.76

1.67

.18

.63

46.68

2.03

.32

.92

320.29

1.91

.22

.95

494.91

1.90

.27

.86

166.69

2.01

.33

.94

451.15

2.07

.51

.83

135.79

1.84

.24

Industries 1948 I - 1972 I
4
5

Nonagricultural goods
producing wage and salary
Mining wage and salary

Construction wage and salary

Manufacturing wage and salary

-1 .4 1

Durables wage and salary

-3 .1 1

Nondurables wage and salary

10* Service producing industries
wage and salary
11 Transportation and public
utilities wage and salary
12 Trade wage and salary

- 0 .8 2
- 1 .5 9
1.55

1.01
0.62
- 0 .3 7
0.76

13* Finance, insurance and
real estate
14 Government wage and salary

0.43
0.58

Race 1954 I - 1972 I
15

White workers

Nonwhite workers

- 0 .1 3
2.07

Occupations 1958 I - 1972 I
17* White collar
18

Professional and technical

19* Managers, officials and
proprietors
2 0 * Clerical

- 0 .4 3
- 1 .2 0
- 0 .1 8
- 0 .3 3
0.74

Sales workers

Blue collar workers

- 1 .3 8

Craftsmen and foremen

- 1 .0 3

Operatives

- 2 .7 7

Nonfarm laborers

1.87

Service workers

1.85

NOTE: Figures in Parentheses are t-values.
* Not reestimated.
Source: Federal Reserve Bank of Cleveland

JU N E-JU LY 1972

DEFINING THE PRODUCT MARKET
IN COMMERCIAL BANKING
Joel M. Yesley
The products or services provided by commercial banks and the markets in which
these products are merchandised are viewed in two ways. Under one concept, commercial
bank services are considered to complement each other to such a degree that banks operate
within a narrow product market—competing only with other banks. The other concept holds
that commercial bank services can be considered on an individual basis and that banks
operate in a broad product market—competing with banks and other financial insititutions.
This article examines these opposing viewpoints in academic literature, court
decisions, and statistical studies. Most o f the theoretical and statistical work has supported
the broad market concept. The Supreme Court decisions, however, have favored the narrow
market concept.
The similarity of financial services provided by

Furthermore, in this view, customers are limited to

nonbank financial institutions and by commercial

banks if they wish to satisfy all their financial

banks has stimulated a considerable amount of

needs at one institution.

controversy

Therefore, nonbank

bankers,

financial institutions, which generally provide only

administrators of banking regulations, and courts

one or two basic deposit or loan products, are not

regarding the institutional scope of the product

able to compete effectively w ith banks.

among

economists,

markets in which banks operate. Most are of the

The definition

opinion that the similarities among the individual

central

services provided by these two general types of

significance

institutions—w ith only a few exceptions such as

markets caused by the entry of new institutions

checking

and mergers of existing ones. Those who regard

accounts—place

them

direct

issue
of

of the product market is a
determining

structural

the competitive

changes in

banking

competition w ith each other. Others, however,

banks as multiple product firms that compete in

hold a considerably narrower view of the scope of

several product markets attach less significance to

the product market in commercial banking. This

the loss of an independent bank in a specific

group contends that banks sell their services in

geographic market because of a merger than

"packages” rather than individually and, in effect,

adherents of the narrow product market concept.

produce a single composite product that cannot be

The latter group, by excluding the products of

duplicated

nonbank financial institutions from consideration,

other

types

institutions.

ECONOMIC REVIEW

would regard a bank merger as contributing to a

institutions are also briefly reviewed. The article

greater concentration of financial resources in a

concludes w ith a discussion of possible areas for

given market area.

further research that should be useful in appraising

The report of the Hunt Commission, which was

changes in banking structure.

made public in December 1971,1 has generated
considerable interest and discussion regarding the
degree of competition among the various types of
depository

financial

institutions

(commercial

NATURE AND RECENT GROWTH
OF FIN A N C IA L INSTITU TIO N S

associations, mutual

Nature. Financial intermediaries channel funds
from savers to borrowers by purchasing pri

savings banks, and credit unions). The Commission

mary securities (debt or equity instruments of

banks,

savings

and

loan

recommended that these financial institutions be

nonfinancial

permitted to provide a wider range of financial

from

services and that all depository institutions be

divided into two broad classifications: commercial

subject to the same reserve requirements, tax

banks and nonbank financial institutions. The

treatment,

interest rate regulations.

w ith

funds obtained

These intermediaries can be

The

latter category includes depository institutions

primary aim of the Report is to improve the

such as savings and loan associations, mutual

efficiency of the financial system by eliminating

savings banks and credit unions, as well as life

differences in regulations that may have inhibited

insurance companies, investment companies, and

open competition among depository institutions.

finance companies. The major difference between

Implementation of these recommendations would

these two types o f intermediaries is in the form of

pave

debt

the

and

institutions)

depositors.

way

fo r

considerably

that

each

creates.

Commercial

banks

homogeneous financial structure and significantly

substitute

enlarge the institutional scope of the product

primary

market in commercial banking.

institutions create various forms of nonmonetary

This article reviews the development of the

money

(deposits and currency) for

securities, whereas nonbank

financial

claims on themselves, such as savings deposits,

controversy concerning the product market in

shares, equities, and other assets. In addition,

commercial banking in both economic literature

commercial

banks

administer

and in the courts. In the absence of a universally

payments

accepted body of economic theory on this vital

credits among spending units.

mechanism

the

national

transferring

deposit

issue, courts have been left to define the business

The assets and liabilities of commercial banks

of banking. As w ill be illustrated in this article,

are, in general, considerably broader than those of

decisions

between the

lower courts

and the

nonbank financial institutions. Commercial banks
generally

receive short-

and intermediate-term

number of recent empirical studies that have

deposits

(ranging

balances

analyzed the significance of various influences on

accounts payable on demand up to certificates of

the

deposit

Supreme

Court

demands

have

for

the

frequently

assets

differed.

depository

Hunt Commission, The Report o f the Presidents
Commission on Financial Structure and Regulation
(Washington, D. C.: Government Printing Office, 1971).

w ith

from

wide-ranging

checking

maturities)

from

individuals and all forms of governmental and
business organizations, and they supply funds of
varying maturities to an equally diverse group of

JU N E-JU LY 1972

DISTRIBUTION OF MORTGAGES BY SOURCE OF LENDING
1970
OTHERS
14.3%

SA VING S
ASSOCIATIONS
33.5%

FEDERA L
G O VE R N M E N T
AGENCIES
6.7%

LIFE
INSURANCE
COMPANIES
16.4%
M U TU A L
SAVINGS
BANKS
12.9%
CO M M ERCIAL
BANKS
16.2%
Source: U. S. Savings and Loan League

borrowers in a number of forms (e.g., rediscounts,

lim iting

term loans, instalment loans). In addition, banks

structures. As of yearend 1970, savings and loan

them

the financing of residential

provide a number of specialized services, such as

associations had allocated just over 85 percent of

trust facilities and safe deposit boxes.

their total assets to mortgage loans and accounted
institutions,

for one-third o f the total credit extended to the

however, receive the bulk of their funds from

Other

mortgage markets (see Chart 1). Mutual savings

households.

The purchases made by nonbank

banks, which are nonprofit th rift organizations

financial institutions, including those that do not

operated solely fo r the benefit o f depositors, also

accept deposits, are usually concentrated in one

allocate most of their total assets (73 percent as of

type

yearend 1970) to residential mortgages.

types

liquid

asset.

depository

Credit

unions,

which

concentrate their assets in consumer loans to

Specialization o f assets is least pronounced for

members, and investment companies (e.g., mutual

finance and life insurance companies. There are

funds), which concentrate in corporate equities,

two types of finance companies: sales finance and

are

nonbank

consumer finance or small loan companies. Sales

associations,

finance companies make loans, generally on a

the

most

specialized

intermediaries.

Savings

which

funds

and

loan
may

short- or intermediate-term basis, for the purchase

withdrawn w itho ut notice, are the next most

of durable and capital goods by individuals and

specialized institutions because of legal restrictions

businesses. Consumer finance companies lend only

that

types

generally

ECONOMIC REVIEW
TABLE I
Total Assets of Financial Intermediaries
1950-1970
(Billions of Dollars, Percent Distribution and Growth Rates)
Growth Rates
Intermediary

1950

Commercial banks
Savings and loan associations
Mutual savings banks
Credit unions
Life insurance companies
Private pension funds
State and local government
pension funds
Finance companies
Open-end investment companies
T O TA L

$149.9
16.9
22.4
0.9
62.6
6.7

1960
54.1%
6.1
8.1
0.3
22.6
2.4

5.0
9.3
3.3

1.8
3.4
1.2

$277.0

100.0%

1970

$230.9
71.5
40.6
5.0
115.9
38.2

41.0%
12.7
7.2
0.9
20.6
6.8

19.6
24.1
17.0
$562.8

19501960

$516.9
176.2
79.0
15.4
200.5
110.8

3.5
4.3
3.0
100.0%

58.0
60.4
47.6

40.9%
13.9
6.2
1.2
15.9
8.7
4.6
4.8
3.8

4.4%
15.5
6.1
18.7
6.4
19.0

8.4%
9.4
6.9
11.9
5.6
11.2

14.6
10.0
17.8

11.5
9.6
10.9

100.0%

$1,264.8

19601970

7.4%

8.4%

Source: Board of Governors of the Federal Reserve System, Flow of Funds
Account

individuals

for a wide range of purposes,

over

this

period.

Most

nonbank

financial

including the purchase of goods and services. Both

institutions, however, still grew at significantly

types of finance companies acquire funds by

faster rates. In 1950, about 54 percent of the total

issuing commercial paper and long-term bonds and

assets of financial intermediaries was accounted

borrowing

from

banks.

Life

for by commercial banks (see Table I). By 1960,

accumulate

funds

from

this share had declined to 41 percent and has

premium payments and issuing stock, and they

remained fairly stable since then. A substantial

insurance
invest

short-term

companies

prim arily

in corporate and government

part of the decline was caused by the growth of
other financial intermediaries, particularly savings

bonds.
financial

and loan associations and life insurance companies.

intermediaries have increased fivefold since World

Regulatory restrictions on commercial banks and a

Growth.

The

total

assets

of all

War II. Commercial banks, however, have shared

shift in public preferences away from demand

considerably less in this growth than other types

deposits and business loans toward interest-bearing

of financial intermediaries. For example, between

liquid assets and consumer and mortgage loans

1950 and 1960, the assets of commercial banks

have been cited as the major causes of this uneven

grew at an average annual rate of 4.4 percent,

growth.

which is well below the growth rate of other types
of financial institutions (see Table I). Over the past
decade, the growth of commercial bank assets
accelerated to an 8.4 percent annual rate, the
average growth rate for all financial institutions
20

Jules Backman and Arnold W. Sametz, "Workable
Competition in Banking," The B ulletin o f the C. J. Devine
In stitu te o f Finance, New York University, No. 22
(November 1962), p. 30.

JU N E-JU LY 1972

ECONOMIC THEO RY AND
BANKING MARKETS
The question of what constitutes the product

product market concept of commercial banking.
His

theoretical

model

the

banking

firm

emphasizes relationships of complementarity or

market in commercial banking has received a

interdependency among financial services provided

considerable amount of attention in the literature
o
on banking structure. Economists generally agree

by commercial banks.4 Individual banks encourage
deposit retention by assuring deposit customers of

that nonbank financial institutions are collectively

immediate

able to produce close substitutes fo r the individual

terms.

financial services provided by commercial banks,

relationship”

w ith the major exception of checking accounts.

complementarity

However, the concept of the bank as a multiple

other

loan

accommodation and favorable

Hodgman

uses

the

term

describe the

"customer

high degree of

between deposits, loans, and

financial

services,
payroll

such

product firm competing in several markets with

administration,

various nonbank institutions is not universally

collection and investment counsel.

preparation,

trust
account

He asserts that the prevailing concept of the

accepted.
The Bank as a Single Product Firm. Donald

relevant product market in literature pertaining to

Hodgman is the major advocate of the single

bank regulation is developed prim arily around the
lending and investing activities o f commercial
banks, rather than the input or deposit market.

This question also has important implications in the area
of monetary policy. John G. Gurley and Edward S. Shaw
assert that control over the stock of money as narrowly
defined (currency in circulation plus demand deposits at
commercial banks) is not sufficient to stabilize the
economy since consumer expenditures are determined by
the total stock of liquid assets including those held at
nonbank intermediaries. Since they regard these institu
tions as direct competitors of banks, they question the
effectiveness of monetary policy, especially in infla
tionary times when depositors at commercial banks are
likely to shift funds into nonbank financial institutions
for higher returns. This increases the lending ability of
those institutions at a time when monetary policy is
attempting to restrict bank loans. See Gurley and Shaw,
"Financial Intermediaries and the Saving-lnvestment
Process," Journal o f Finance, May 1956 and Money in
Theory o f Finance (Washington, D. C.: The Brookings
Institution, 1960). On the other hand, Milton Friedman
has adopted a considerably narrower view of the product
market in commercial banking, asserting that neither
mutual savings bank deposits nor savings and loan shares
are very close substitutes for time deposits at commercial
banks. This conclusion is based mainly on observations of
patterns in the growth rates of these types of deposits
from 1954 to 1958. See Milton Friedman and Anna
Jacobson Schwartz, A M onetary H istory o f the U nited
States, 1867-1960 (Princeton: Princeton University Press,
1963).

Hodgman argues that this popular conception of
the bank as an institutional investor, maximizing
the interest return available from a wide range of
lending

and

acceptable

investing

alternatives

risks, is misleading.

carrying

In Hodgman's

opinion, this view, which supports the multiple
product

concept,

ignores

the dependence of

deposits and loans upon the provision of banking
services.
He

refers to

tw o

widespread

practices in

banking that cannot be explained by the prevailing
concept. One is nonprice credit rationing, which is
frequently adopted by banks in periods o f credit
restraint. Banks usually cite a responsibility to
long-term deposit customers when declining loan
requests from nondepositors instead of quoting
unrealistically

high

rates.

This

preference for

depositors is based on the contribution of service
4

Donald R. Hodgman, Commercial Bank Loan and
Investment Policy (Champaign, Illinois: University of
Illinois, 1963).

ECONOMIC REVIEW
income to long-run bank profits rather than a

credit were in effect.

loans.

This study indicated that interest rates charged

Hodgman asserts that a bank can charge a lower

by banks were the lowest where the purchasing

contract rate on a loan to a depositor than to a

bank handled all of a town's business instead of

maximization

interest

returns

nondepositor and still earn a higher effective rate

merely holding the proceeds of a note issue as they

of return because of charges for complementary

were being -spent. Furthermore, concessions on

services.

Furthermore,

a loan to

a depositor

loan rates tended to be greater as the loan size

constitutes a smaller drain on a bank's lending

increased,

capacity than an identical loan to a nondepositor.

expectations of larger and more profitable deposit

The other practice that does not support the

accounts. It was concluded that "nonprice terms

concept of banks as institutional investors is the

and

tendency of bankers to sell government securities

importance

in explaining the determinants of

at a capital loss to accommodate prime borrowers

commercial

bank

in times of tight money.

further, more comprehensive investigation."

In view

of the close relationship between

deposits and loans, Hodgman bases his definition

practice

deposit

The

attributed

relationships

Bank

pricing
a

are

bankers'

sufficient

behavior to warrant

Multiple

Product

Firm.

Economists who view banks as multiple product

of the product market on the to ta lity of services

firms generally make a distinction between the

provided by banks. He does not believe that

business and nonbusiness customers of a bank in

commercial

a n a ly z in g

banks

compete

significantly

with

th e

other types o f financial intermediaries since the

interdependencies.

latter are not individually capable o f duplicating

spokesman

the

maintains that

basic

product

commercial

banks—the

safeguarding and transfer of money—or the wide
range of services that comprise the "customer
relationship."
The

customer

confirmed

relationship
study

hypothesis
30

was

Massachusetts

municipalities that borrowed in anticipation of tax
revenue.5 The tax anticipation notes issued by
Massachusetts towns are generally purchased by
commercial banks that also hold deposits of these
towns.

This

group

bank

borrowers

was

considered ideal for testing the hypothesis, since

for

strength
David
the

product

Alhadeff,

a leading

broad

market

concept,

The available evidence suggests that package
sales are typically made compulsory only for
business borrowers (and not to all o f them)
in the form of a compensating balance
requirement. Significantly, the tie-in sales
are restricted to those services (business
loans and transactions deposits) for which
banks are the dominant or sole suppliers
whereas bank services that nonbanks also
supply (such as home mortgage loans,
consumer loans, and savings accounts) can
usually be negotiated separately.7

their notes were homogenous, the nonprice terms
of the loan were standardized, and no lines of
5

Neil B. Murphy, A Test o f the Deposit Relationship
Hypothesis, Staff Economic Study No. 38 (Washington,
D. C.: Board of Governors of the Federal Reserve System,
1970).

Qlb id ., p. 59.

^David A. Alhadeff, "Monopolistic Competition and
Banking Markets," in M onopolistic C om petition Theory:
Studies in Im pact, ed. by Robert C. Kuenne (New York:
John Wiley & Sons, Inc., 1967), pp. 364-365.

JUN E-JULY 1972
He views commercial banks as department

Alhadeff has also asserted that some nonbank

stores of finance, producing a number of distinct

financial institutions compete with commercial

services. He has divided these services into five

banks

categories:

former

loans,

safekeeping

facilities

(e.g.,

for demand deposits, even though the
institutions

not

offer

third-party

deposit accounts and safety boxes), investment

payment facilities. He divides demand deposits

outlets for the public in the form of time and

into tw o categories: those held for transactions

savings accounts, checking facilities in the form of

purposes and those held as liquid reserves to serve

demand

deposit

accounts,

and

miscellaneous

buffers

Although

specialized services such as trust facilities.

against

unexpected

commercial

banks

expenditures.

are

unique

Alhadeff, along with Clifton Kreps, believes

satisfying the transactions needs of the demand

that competition between banks and other types

depositor, Alhadeff contends that credit unions,

o f financial institutions is more significant in

savings and loan associations, and mutual savings

credit

product

markets

than

in the deposit

markets, partly because their deposit services tend
to

be more homogeneous than their lending

services.

Both economists have focused their

banks

provide

highly

liquid

interest

bearing

deposit substitutes for demand deposits held as a
liquid reserves. A more generalized form of this
hypothesis was originally

proposed

by James

analyses on the consumer, mortgage, and business

Tobin and William J. Baumol, who maintained

loan markets. They assert that commercial banks

that the volume of idle transactions balances

compete w ith a wide range of other institutions,

increases at a slower rate than total transactions

including finance companies, credit unions, savings

and income and is inversely related to the level of

and loan associations, mutual savings banks, life

interest rates available on alternative assets.9

insurance companies, and a number of Federal
agencies in

the consumer and mortgage loan

markets. Alhadeff and Kreps agree that banks are
generally isolated from significant competition in

JUDICIAL INTERPRETATIO N OF THE
PRODUCT M ARKET IN
COMMERCIAL BANKING

the business loan market, especially in the small

The

Federal

laws

that

were

designed

loan segment. Alhadeff notes that, other than

promote competition in the banking industry have

commercial finance companies, nonbank financial

not attempted to define the product market in

institutions are not very active in this market.

commercial banking.10 The three Federal bank

However, he does not regard finance companies as

regulatory

effective competitors

Corporation

since they specialize

serving marginal risk borrowers, who would likely
have d iffic u lty obtaining loans from commercial
ban ks.
g

David A. Alhadeff, "A Reconsideration of Restrictions
on Bank Entry," The Q uarterly Journal o f Economics,
May 1962, and Clifton H. Kreps, Jr., "Characteristics of
Local Banking Competition," Banking and M onetary
Studies (Homewood, Illinois: Richard D. Irwin, Inc.,
1963).

agencies—Federal
(FDIC),

the

Deposit
Comptroller

Insurance
o f the

William J. Baumol, "The Transactions Demand for Cash:
An Inventory Theoretic Approach," Q uarterly Journal o f
Economics, November 1952; and James Tobin, "The
Interest-Elasticity of Transactions Demand for Cash,"
Review o f Economics and Statistics, August 1956.
10For a discussion of these laws see "Federal Laws
Regulating Bank Mergers and the Acquisition of Banks by
Registered Bank Holding Companies," Econom ic Review,
Federal Reserve Bank of Cleveland, January 1971.

ECONOMIC REVIEW
Currency, and the Board o f Governors of the

CO M PETITIVE IMPLICATIONS OF THE
BANK MERGER ACT OF 1966
The primary purpose of the Bank Merger A c t o f
1966, which amended the Bank Merger A c t o f

Federal
more

Reserve System—have therefore had a
or

less

free

hand

competitive

significance

institutions

ruling

determining the

o f nonbank
on

financial

bank mergers. The

1960, is to clarify the application of antitrust laws

decisions of these agencies, however, are subject to

to bank mergers. It permits some acquisitions

review fo r possible violation of anti-trust laws by

that

under a strict

the Department of Justice. If the decisions are

application of the competitive standard established

challenged, the cases are initially tried in the U. S.

would

have been

illegal

in the Clayton A ct, providing any anticompetitive

District Courts and may come before the Supreme

effects were clearly outweighed

Court if an appeal is made.

increased

The first case in which the Supreme Court

public benefits. The language of Section 7 of the
acquisitions of

treated the product market as a major issue in

business concerns that would substantially lessen

evaluating bank competition involved a proposed

competition

merger between the second and third largest banks

Clayton A ct,

which

prohibits

in any line of commerce in any

section of the country, was incorporated in the

in Philadelphia.11

1966 Merger A ct w ith only one change, the

narrow

The lower court accepted the

product market concept, stressing the

exclusion of the phrase "in any line of commerce,”

unique scope o f commercial banking services and

The Supreme Court has not attached any

the high degree o f interdependency among them.

significance to the omission and continues to

The action to enjoin the merger, however, was

regard bank services in total as the relevant line of

dismissed on the basis of a finding of no violation

commerce

of the anti-trust laws.

product market o f commercial

The Supreme Court reversed the decision of the

banking. The defendant banks in merger cases,
however, have argued that Congress intended that

lower court, prim arily because o f a difference of

the competitive implications of mergers be judged

opinion

on a m ultiple product basis, which would permit

However, the higher court agreed w ith the district

the consideration of nonbank financial institutions

court's product market definition, mainly because

as competitors of banks. The determination of a

of the uniqueness and significance of the demand

merger's legality would, therefore, require some

deposit.

the bank's services.*
*

1968.

the

geographic

market.

(T)hey [commercial banks]
alone are
permitted by law to accept demand deposits.
This distinctive power to accept demand
deposits...makes banks the intermediaries in
most financial transactions (since transfers
of substantial moneys are almost always by
check
rather
than
by
cash)
and,
concommitantly, the repositories of very

judgment as to the community's need for each of

Franklin R. Edwards asserts that the courts were directed
to ascertain the overall competitive impacts of mergers on
the basis of a weighing of the effects on the separate
product lines, including "commercial banking" as a
distinct product. See "Bank Mergers and the Public
Interest: A Legal and Economic Analysis of the 1966
Bank Merger A ct," The Banking Law Journal, September

regarding

United States v. Philadelphia National Bank,ef. al. 210
Supp. 348 (1962); 83 S. Ct. 1715 (1963).

JUN E-JULY 1972
substantial
funds.12
The

court

individual

and

corporate

decisions. This lower court ruled that savings and
loan associations, commercial finance companies,

further

reasoned

that

the domi

government lending agencies, credit unions, and

nance of highly liquid demand deposits in the

life

insurance

companies

provided

reasonable

deposit portfolios of banks made them the most

substitutes for many of the financial services

important source o f short-term business credit.

offered by banks. The court also noted that the

Moreover, it found that other bank services are not

combined share o f the deposits and loans of all

subject to competition from nonbank financial

financial institutions in California accounted for

institutions, even though the services are similar.

by the two banks proposing to merge would be

The court mentioned consumer loans and savings

only one-half the comparable percentage based

deposits as examples, arguing that banks can

only

obtain funds more cheaply than finance companies

difference o f product market perspective was an

commercial

bank

resources.

This

and therefore lend at lower rates, and also that

important factor inducing the judge to rule against

savings deposits of commercial banks enjoyed a

the Department of Justice, which did not appeal

"settled consumer preference" over those of other

the decision.
The Provident Bank Case

institutions.

was the first merger

In the Lexington Bank Case (1964),13 the

case to reach the Supreme Court under the Bank

Supreme Court reaffirmed its narrow concept of

Merger A c t o f 1966 in which the definition of the

the

banking,

product market became a major issue. A fter the

emphasizing once again both the uniqueness of the

case was remanded to the district court for further

checking account and the wide scope of banking

consideration on procedural grounds, the district

services, specifically mentioning deposit boxes,

court reversed its original decision and ruled the

Christmas Club

proposed merger between the fifth and seventh

product

market

commercial

accounts, correspondent bank

facilities, collection services, and trust department

largest banks

services.

market was in violation of the law. The court

in the

four-county Philadelphia

The first major merger case to come before a

however, rejected the narrow concept o f the

district court under the Bank Merger A c t o f 1966

product market held by the Department o f Justice

was the Crocker-Anglo Citizens Bank Case (1967),

on grounds that by om itting the phrase "in any

which involved the fifth and seventh largest banks

line of commerce" in the Bank Merger A c t o f

in California.14 The district court adopted a

1966, Congress had intended a test of the overall

considerably

competitive impact of a merger in a number of

broader concept of the product

market than the Supreme Court had in previous

individual product markets.
The lower court alluded to the uniqueness of

Ibid., p. 326 (Footnote omitted).

United States v. First National Bank and Trust
Company of Lexington, et. at., 208 Supp. 457 (1962); 84
S. Ct. 1033 (1964).
14

United States v. Crocker-Anglo National Bank, et. al.,
263 Supp. 125 (1966); 277 Supp. 133 (1967).

demand deposits and the interdependency of
commercial bank services, especially for corporate
customers.

However,

the

interrelationships of

United States v. Provident National Bank, et. al., 262
Supp. 297 (1966); 87 S. Ct. 1088 (1967).

ECONOMIC REVIEW

these services were not strong enough to preclude

The Supreme Court took issue w ith the lower

direct competition from other types of financial

court regarding the appropriateness of analyzing

institutions, which the court limited to mutual

competition

between

commercial

banks on a

savings banks and savings and loan associations on

submarket or separate product basis. It asserted

the basis that

that the use of submarkets should be confined to

m eaningful
banks..."

"they

alone offer direct and
commercial

cases involving mergers between commercial banks

In stressing competition for savings

competition

and other types of financial institutions. The

deposits, the lower court denied that commercial

Court emphasized customers' desires to satisify

banks enjoyed a "settled consumer preference," as

all their financial needs at a single institution,

the

Supreme

Court

had

asserted

the

Philadelphia Bank Case. The increasing importance

making

nonbank

financial

institutions

less

attractive than banks. It also appeared to accept

of this competition in recent years was noted, as

Hodgman's notion of the customer relationship in

illustrated by the decline in the proportion of

referring to interdependencies among the services

demand to time deposits at all national banks from

provided by banks:

70 to 30 percent in 1960 to a rough equivalency as
of the end of 1967.
The Supreme Court's most recent affirmation
of the narrow concept of the product market
occurred in the Phi 11ipsburg National Bank Case
(1970).
third

and

The proposed merger was between the
fifth

largest banks

located

in the

two-city area of Phillipsburg, New Jersey, and
Easton, Pennsylvania. Finding that banking as a
whole was not the relevant line of commerce, the
lower court analyzed competition in terms of
individual product lines. Competition between the
banks involved in the merger and other types of

For some customers, full service banking
makes possible access to certain products or
services that would otherwise be unavailable
to them; the customer w ithout significant
collateral, for example, who has patronized a
particular bank fo r a variety of financial
products and services is more likely to be
able to obtain a loan from that bank than
from a specialty financial institution to
which he turns simply to borrow money. In
short, the cluster o f products and services
termed commercial banking has economic
significance well
beyond the various
products and services involved.18

financial institutions, such as savings and loan

The Court distinguished between small and large

associations, credit unions, insurance and finance

banks in applying this version of the "customer

companies, was emphasized. The lower court also

relationship" hypothesis, since this was the first

noted that the banks involved in the merger were

merger case involving two relatively small (less

operated

than $30 m illion in total deposits) banks to come

the

manner

savings

institutions than larger commercial banks.

before it. The Court asserted that customers who
would tend to hold relatively small accounts would

1 fi

United States v. Provident National
District Court Opinion (1968), p. 40.

Bank, et. at..

17United States v. Phillipsburg National Bank and Trust
Company, et. at., 306 Supp. 645 (1969); 90 S. Ct. 2035
(1970).

be likely to have their checking and savings accounts
in the same local bank, even when higher savings
18

U. S. Supreme Court Disallows Bank Merger", The
Banking Law Journal, April 1971, p. 353.

JUN E-JULY 1972
accommodation o f borrowing needs. On the other
DEMAND AND SUPPLY OF
FINANCIAL ASSETS

hand, the district courts have maintained that the
specialized

Interest Rate

nature

nonbank

financial

institutions has not significantly hindered their
ability

compete

w ith

commercial

banks,

especially in the markets for savings deposits and
home mortgage loans.

STATISTIC AL EVIDENCE
While the controversies in economic theory and
in the courts over the relevant product market
have been unresolved, the statistical evidence
strongly supports the broad market concept. This
Quantity

section reviews five recent statistical studies on the
substitutability of time deposits among different

Economic theory postulates that the demand
curves for financial assets are upward sloping (line

types o f depository institutions and one study that

d). If it is assumed that the quantity supplied is
infinitely elastic at the observed yield (line s), the
quantity of a particular asset will then be deter

directly

tested

the

theory

o f a bank

as a

single product firm. Four of the five studies on

mined solely by the level of demand at the point of
intersection with the horizontal supply schedule

substitutability and the other study support the
broad

(point e).

product

assumption

market
the

concept.

im plicit

studies

deposit

interest rates were available elsewhere. This general

substitutability

banking relationship would prevail because the

deposits are infinitely or highly elastic w ith respect

convenience factor and the advantages of a good

to their "o w n " rate of interest (see Figure).19 One

relationship w ith the local banker would be more

important for small depositors and borrowers, who
would have less access to a variety of financial
institutions than larger customers.
In summary, the district courts have generally
accepted a somewhat broader concept o f the
product market in commercial banking than the
Supreme

Court.

The

Supreme

Court

has

emphasized both the uniqueness of some of the
individual services provided by commercial banks
and the high degree of interdependence among
them. The Court attributed this interdependence
to the desire of bankers to handle all the banking
business of their customers and the preference of
the public for one-stop banking and the ready

is that the supply curves of

Least squares multiple regression techniques were
generally used in these studies to describe how a
dependent variable (to be explained) is related to a
number of independent or explanatory variables. A
demand equation is estimated to fit the actual
observations of the dependent variable in such a way that
the sum of the squared deviations between these
observations and those predicted by the estimated
equation is minimized. The independent variables have
generally included an income or wealth constraint on
deposit holders, the "ow n" rate of interest of an asset, the
yields on substitute assets, and sometimes a variable to
measure the transactions or convenience costs associated
with the acquisition of assets. These studies have
hypothesized that the income and "ow n" price or yield
elasticities are positive (i.e., more of a particular asset will
be demanded as its yield or the income of the asset holder
increase) and that an increase in the yield of an alternative
asset will depress the demand for the asset whose relative
yield declined (i.e., the assets are substitutes).

ECONOMIC REVIEW
analyst, who has extensively reviewed empirical

paid on these deposits by banks to that paid on

studies estimating the substitutability relationships

near-bank deposits, whereas near-bank deposit

among financial assets, has accepted the validity of

growth was negatively related to this ratio by an

this im plicit assumption "because the regulation of

even higher degree.22 Their estimated demand

the savings deposit market by Federal Agencies

equations for annual changes in total deposits,

and state commissions, as well as the stickiness of

demand deposits and time deposits were based on

the rates set by deposit-type intermediaries, make

pooled data fo r all states for 1951-1961. They

it reasonable to assume that individual savings

found that almost 30 percent of the variance in

institutions determine a yield and accept deposits

percent change in time deposits and 27 percent of

at that set rate.” 20

the variance in near-bank deposits were explained

The first study to employ m ultiple regression

by the independent variables.
Jerry

techniques utilizing observations across geographic

Jordan

areas and over time in exploring the product
21
market was by Edgar Feige.
He concluded on

substitutability

also

between

found
time

strong

deposits

commercial banks and savings and loan shares,

the basis of the pooled data (observations from all

based on

states fo r the 1949-1959 period) that demand

between the demand for time deposits and the

deposits

ratio of the yield on savings and loan shares to the

were

either

weak

substitutes

a significantly

negative relationship

independent of savings and loan associations shares

yield on time deposits.

and mutual savings bank deposits in demand. He

based on state data from 1956 through 1966, also

also concluded that time deposits at commercial

indicated that both mutual savings bank deposits

banks

and

savings

and

loan

His regression results,

were

and savings and loan shares are close substitutes

independent of each other and that time deposits

for time deposits on the basis of convenience cost,

and mutual savings bank deposits were either weak

and, to a smaller extent, the relative yield. More

substitutes or independent. Finally, Feige did not

than half of the variation among the states in per

find any strong substitutability or complementary

capita holdings of these three types of assets was

relationship between savings and loan association

consistently

shares and mutual savings bank deposits.

variables in his demand equations.

A different conclusion emerged from the work

explained

the

independent

A variation of Milton Friedman's permanent

of Cohen and Kaufman, who found that time

income form ulation of the demand for money was

deposits at commercial banks and "near-bank"

developed by Tong Hun Lee, who attempted to

deposits were close substitutes for each other

determine

because time deposit growth was related positively

significant interest rate variable

regression

analysis

the

most

affecting the

and in a significant degree to the ratio of interest
22
20

George K. Kardouche, The C om petition fo r Savings,
Studies in Business Economics No. 107 (New York:
National Industrial Conference Board, 1969).
21

Edgar L. Feige, The Demand fo r L iq u id Assets: A
Temporal Cross-Section Analysis (Englewood Cliffs, N. J.:
Prentice-Hall, Inc., 1964).

Bruce C. Cohen and George G. Kaufman, "Factors
Determining Bank Deposit Growth by State: An
Empirical Analysis," Journal o f Finance, March 1965.

OO
Jerry L. Jordan, "The Market for Deposit-Type
Financial Assets," Project fo r Basic M onetary Studies,
W orking Paper No. 8, Federal Reserve Bank of St. Louis,
March 1969.

JUN E-JULY 1972
demand for money.24 Lee began by fittin g data

assets by using a u tility function approach to

for

generate a number o f indifference curves between

1951-1965

his

demand

for

money

equations, using one interest rate differential on an

money and other assets.26

alternative asset (e.g., the difference between the

The validity of the single market concept in

yield on savings and loan shares and the yield on

commercial banking was directly tested by Alan

money) at a time as an independent variable in

McCall.27 He hypothesized that a bank's loan and

each equation.

regression

demand deposit service prices would be higher and

equations

using

Lee also computed

combinations of the

the rates on time and savings deposits lower than

difference between the yields of savings and loan

varying

those of another bank in a more competitive

shares and money and the difference between the

market, other things being equal. McCall employed

yields of another alternative asset and money as

conventional

m ultiple regression techniques to
influence

independent variables, finally including all the

isolate

yield differentials in one equation. In all of these

structure on pricing performance from that of

regressions, the negative coefficients of the yield

noncompetitive factors such as bank deposit size,

highly

local economic activity, and type of market (e.g.,

savings

and

loan shares remained

the

competitive

market

significant, while those of the yield on time

city, county). All the banks in his sample group

deposits were progressively less significant as more

had less than $50 m illion in deposits and were

variables were introduced.

located in the Ohio-Kentucky region of the Fourth

Lee concluded on the basis of his tests that

Federal Reserve District. The regression equations

savings and loan shares were the closest substitutes

indicated that only the service charge rate on

for money among time deposits, short-term paper,

demand

deposits

was

competitive

long-term bonds, and equities. Lee also noted that

structure, thereby implying that banks compete

these empirical results were consistent with the

with varying degrees of intensity in different

substitution hypothesis of Gurley and Shaw and

product markets. McCall concluded that

the Baumol-Tobin hypothesis, which emphasized

Such inconsistent pricing results clearly
support rejection of the single line of
commerce
hypothesis
for small- and
medium-sized banks...Specifically, small- and
medium-sized banks have m ultiple lines of
9Q
commerce and geographic markets...

the influence of opportunity cost (i.e., interest
foregone by not purchasing alternative assets) in
the holding of demand deposits.
Using

a different

approach,

Karuppan

Chetty concluded that time deposits were the
closest substitutes for money, followed by mutual
savings bank deposits and, finally, savings and loan
shares.25
substitution

estimated

between

the

elasticity

money and other liquid

Tong Hun Lee, “ Alternative Interest Rates and The
Demand for Money: The Empirical Evidence," American
Econom ic Review, December 1967.
25V. Karuppan Chetty, "On Measuring the Nearness of
Near-Moneys," Am erican Economic Review, June 1969.

A utility function approach relates the level of
enjoyment or appreciation of a good to the rate of
consumption. The indifference curves represent the
various combinations of two goods that will yield the
same total satisfaction.
27

Alan S. McCall, A Statistical Investigation o f
Commercial Banking as a Single Line o f Commerce,
Working Paper No. 69-10, (Washington, D. C.: Federal
Deposit Insurance Corporation, 1970).
28Ibid., pp. 9-11.

ECONOMIC REVIEW
TABLE II

business

Sources of Short-term Funds for
Nonfinancial Corporations
Selected Years
(Percent Distribution)

inter-institutional competition (see Tables II and

Source

markets,

indication

III). Proponents of the narrow product market
approach have sometimes argued that commercial
banks have a competitive advantage over other

1963

Open market paper
Short-term bank loans
Finance company loans
Other sources

loan

1971 p

1967

n.a.
29.9%
7.5
62.7

12.5%
30.0
n.a.
57.5

1 0.3%
20.7
17.2
51.7

institutions offering credit in these markets, since
finance companies must rely on banks for a
substantial portion o f their funds. However, data
collected by Raymond Goldsmith indicate that

p Projected.

business

Source: Bankers Trust Company, New York

companies, and sales finance companies acquired

finance

companies,

personal

finance

only 24 percent, 20 percent and 12 percent,
TABLE III

respectively, of their funds from commercial banks

Percent Distribution of Selected Financial
Assets by Type of Institution
Selected Years

Institution

1963

1967

1971 p

Competition

between

commercial

the consumer

loan

market

in which

finance

companies devote about two-thirds of their total

45.5%
28.6
9.1
16.9

39.1%
13.0
15.2
32.6

48.9‘
10.9
16.3
23.9

13.7
43.4
13.6
15.0
3.4
11.0

14.9
43.8
14.2
12.6
4.5
10.0

funds.
With regard to competition in mortgage loan
markets,

one study concluded that the rates

charged by savings and loan associations are very

Mortgage Loans on Single-Family Dwelling Units
Commercial banks
Savings and loan associations
Mutual savings banks
Life insurance companies
U. S. agencies
Individuals and others

banks and finance companies is concentrated in

Consumer Credit
Commercial banks
Nonbank financial corporations*
Credit unions
Others

1965.

15.1
44.8
13.4
9.5
7.6
9.6

p Projected or preliminary.
* Includes finance companies, factors, mortgage com
panies, and real estate investment trusts.
Source: Bankers Trust Company and Federal Home Loan
Bank. Board

responsive

competitive
pressures
from
on
commercial banks.
Another investigator found
that increased competition between commercial
banks and savings and loan associations in the
Chicago area over the 1960 to 1965 period, as a
result

liberalization

regulations

commercial banks, almost completely eliminated
rate differences at these institutions.31
29

Raymond W. Goldsmith, Financial In stitu tion s (New
York: Random House, 1968).
30

Relatively little statistical work has been done
on the degree of loan substitutability between
banks and other types o f financial institutions.
However, evidence of significant shifts in the share
of credit extended by commercial banks in some
of these markets, especially the consumer loan and
30

Phoebus J. Dhrymes and Paul J. Taubman, "The
Savings and Loan Business: An Empirical Survey,"
Savings and Residential Financing: 1969 Conference
Proceedings, Donald O. Jacobs and Richard T. Pratt,
co-editors (Chicago: United States Savings and Loan
League, 1969).
31

Allen F. Jung, "Terms on Conventional Mortgage
Loans—1965 vs. 1960," N ational Banking Review, Vol. 3,
No. 3, March 1966.

JU N E-JU LY 1972

CONCLUSION

deposit customer of a commercial bank to satisfy

The Supreme Court has consistently accepted

his other major financial needs at other banks or

the narrow product market concept of commercial

nonbank

banking, although the m ultiple product concept of

depend to a large extent upon the importance of

the banking firm has received more support from

the convenience of one-stop banking to him. He is

economists. The latter concept has been indirectly

likely to find a similar degree of accommodation

financial institutions would probably

verified by statistical studies that have revealed a

of particular needs at both types of institutions.

close substitutability between deposits provided

The use of customer surveys would provide more

by commercial banks and those of other more

direct evidence than statistical studies as to how

specialized

Few

the public evaluates comparable services provided

investigators, however, have attempted to estimate

by banks and other financial institutions and the

directly the strength of inter-relationships among

importance of one-stop banking.

depository

institutions.

the services provided by commercial banks. The

The improved understanding of the product

use of tie-in arrangements, whereby the seller

market in commercial banking resulting from such

attempts to condition the availability of some of

surveys would permit more uniform ity in the

the goods or services he provides upon the

analyses

acceptance

acquisitions that are conducted by the regulatory

the

customer

others,

has

competitive

effects

bank

generally been outlawed in banking. Nevertheless,

agencies, the

banks can legally grant more favorable terms on

courts. Ideally, a weighting scheme that would

loans to customers who agree to accept, or have

reflect the ability of nonbank financial institutions

accepted, other services. Hodgman's theory of the

to compete w ith banks would be devised for each

customer

major product market in which banks operate.

relationship

appears

plausible

for

Department o f Justice and the

business or corporate customers, who are likely to

Factors such as legal constraints (e.g., maximum

maintain large demand deposit balances at banks

interest rates payable on savings deposits) as well

where they expect to

as the

borrow.

However, the

lending policies

nonbank

financial

compensating balance requirement, which is at the

institutions

core

of the customer

risks) would be considered in the analysis of

relationship, does not generally apply to the

competitive strength. This approach would be an

average loan customer who may be interested in a

improvement over the sole criterion of size that is

consumer or mortgage loan.

currently

Hodgman's

theory

The willingness of the typical personal demand

(e.g.,

maximum

acceptable credit

used in the analysis of competitive

effects of structural changes in banking markets.

Additional copies of the ECONOMIC REVIEW may
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Cleveland, Ohio 44101. Permission is granted to
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Full text of Economic Review (Federal Reserve Bank of Cleveland) : June 1972

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