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Regional economic conditions and the variability of rates of return in commercial banking

Frederick T. Furlong and John Krainer ()

No 2007-21, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: We develop new techniques to assess the relationship between commercial bank performance and the economic conditions in the markets in which they operate. In the analysis, we allow for heterogeneity in the responses of banks to regional economic conditions. We find a statistically significant relationship between bank performance and shocks to the regional markets in which they operate. We find that region-specific shocks have a significant and persistent effect on the cross-sectional variance of bank performance in the market. That is, shocks affecting average performance of banks in a region also tend to increase the dispersion of their performance. We demonstrate that this effect is due to heterogeneity in the banks' exposures to their regional economies. Moreover, by allowing for this heterogeneity, we find that systematic responses to regional economic effects are notably more important in explaining the variation in bank performance than suggested by analysis in which responses are constrain to be the same for all banks.

Keywords: Banks and banking; Bank profits (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban and nep-geo
Date: 2007
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