Vertical Integration to Avoid Contracting Vertical Integration to Avoid Contracting with Potential Competitors: Evidence with Potential Competitors: Evidence

from Bankers’ Banksfrom Bankers’ Banks

James A. Brickley, James S. Linck James A. Brickley, James S. Linck and Clifford W. Smith, Jr.and Clifford W. Smith, Jr.

Fundamental Business DecisionFundamental Business Decision

• Should the firm make or buy its inputs?Should the firm make or buy its inputs?• With respect to bankingWith respect to banking

• Loan participation, check clearing, asset/liability Loan participation, check clearing, asset/liability management, credit card services, advisorymanagement, credit card services, advisory

22

Make or Buy?Make or Buy?

• Most past research focused on:Most past research focused on:• Transaction costs, property rights, market power, Transaction costs, property rights, market power,

government regulationgovernment regulation

• Empirical support for:Empirical support for:• Integrate to avoid hold-up problems associated with Integrate to avoid hold-up problems associated with

firm-specific investmentfirm-specific investment• Market power and government regulationMarket power and government regulation

• HoweverHowever• Significant variation exists in settings where these are Significant variation exists in settings where these are

relatively unimportantrelatively unimportant

33

Our FocusOur Focus

• Make vs. buy decision in the banking industry in Make vs. buy decision in the banking industry in the latter part of the 20th centurythe latter part of the 20th century

• Geographic deregulation and technological changeGeographic deregulation and technological change• Community banks exposed to greater competition from Community banks exposed to greater competition from

larger banks on which they previously relied for larger banks on which they previously relied for correspondent servicescorrespondent services

• Industry formed business cooperatives called Industry formed business cooperatives called “bankers’ banks” for correspondent services“bankers’ banks” for correspondent services

• What explains it?What explains it?• Specific investment relatively unimportantSpecific investment relatively unimportant• No noticeable change in market power in these marketsNo noticeable change in market power in these markets• Banking becoming less (not more) regulatedBanking becoming less (not more) regulated

44

Business CooperativeBusiness Cooperative

• Firms jointly own a primary supplier or distributorFirms jointly own a primary supplier or distributor

55

Firm A Firm B Firm C

Distributor

Supplier

Examples of Business CooperativesExamples of Business Cooperatives

• AgricultureAgriculture• Hardware storesHardware stores• Grocery storesGrocery stores• Drug RetailingDrug Retailing• Moving IndustryMoving Industry• Mutual InsuranceMutual Insurance• Joint VenturesJoint Ventures• BankingBanking

66

Ace HardwareAce Hardware

• Retailer-Owned Cooperative Retailer-Owned Cooperative wholly owned by wholly owned by independently operated store ownersindependently operated store owners

• 20072007• 4,600 Ace Stores in all 50 states and 70 countries on 4,600 Ace Stores in all 50 states and 70 countries on

six continentssix continents• $12 billion in sales$12 billion in sales

77

Business Cooperatives and Business Cooperatives and Organizational AlternativesOrganizational Alternatives

• Purpose: Economies of scale in the production / Purpose: Economies of scale in the production / acquisition of inputs or the distribution of their acquisition of inputs or the distribution of their products products

• Organizational alternativesOrganizational alternatives• Market transactionsMarket transactions• Long-term contractingLong-term contracting• Vertical integrationVertical integration

88

Contracting CostsContracting CostsBusiness CooperativesBusiness Cooperatives

• BenefitsBenefits• Maintains local asset ownershipMaintains local asset ownership• Avoids hazards of contracting between to Avoids hazards of contracting between to

independently owned firmsindependently owned firms

• CostsCosts• Free-riding in monitoring and decision making of Free-riding in monitoring and decision making of

jointly owned companyjointly owned company• Collective action problems & owner conflicts Collective action problems & owner conflicts • Antitrust Antitrust

99

General Economic PredictionGeneral Economic Prediction

• Expect to see cooperatives in environments Expect to see cooperatives in environments where where

• Costs of independent contracting are highCosts of independent contracting are high• Benefits of local asset ownership are largeBenefits of local asset ownership are large• Costs of cooperative organization are low (free-riding, Costs of cooperative organization are low (free-riding,

collective action issues and antitrust) collective action issues and antitrust)

1010

Objectives of this PaperObjectives of this Paper

• General ObjectiveGeneral Objective• Provide new evidence on the determinants of vertical Provide new evidence on the determinants of vertical

organization and the economic reasons for business organization and the economic reasons for business cooperativescooperatives

• Specific ObjectiveSpecific Objective• Provide evidence on the choice that small banks Provide evidence on the choice that small banks

make between long-term contracting with a large make between long-term contracting with a large bank (correspondent banking) & joining a business bank (correspondent banking) & joining a business cooperative (bankers’ bank)cooperative (bankers’ bank)

• Test predictions on when and why bankers’ banks first Test predictions on when and why bankers’ banks first formed and who uses their servicesformed and who uses their services

1111

Why are Bankers' Banks Particularly Why are Bankers' Banks Particularly InterestingInteresting

• Unique opportunity to provide evidence on Unique opportunity to provide evidence on vertical choice.vertical choice.

• In contrast to industries with long-standing, static In contrast to industries with long-standing, static organizational patterns, we can observe both organizational patterns, we can observe both important environmental changes and variation in important environmental changes and variation in organizational responses. organizational responses.

• This allows us to identify more clearly the economic This allows us to identify more clearly the economic factors that are likely to affect vertical organization factors that are likely to affect vertical organization and to provide evidence on their explanatory power.and to provide evidence on their explanatory power.

• The downside is that our evidence is from one The downside is that our evidence is from one regulated industry.regulated industry.

1212

Changes in the Banking Industry 1935-Changes in the Banking Industry 1935-2005 (Table 1)2005 (Table 1)

1313

YearUnit

Insitutions

Institutions with

BranchesTotal

InstitutionsBranch Offices Total Offices

% Unit Banks

Branches Per Bank (with branches)

1935 13,329 796 14,125 3,112 17,237 94.36 3.911945 12,210 1,092 13,302 3,896 17,198 91.79 3.571955 11,509 1,728 13,237 6,965 20,202 86.95 4.031965 10,352 3,192 13,544 15,872 29,416 76.43 4.971975 8,868 5,516 14,384 30,205 44,589 61.65 5.481985 7,393 7,024 14,417 43,293 57,710 51.28 6.161995 3,499 6,443 9,942 56,512 66,454 35.19 8.772005 2,043 5,484 7,527 72,775 80,302 27.14 13.27

Banking Industry DeregulationBanking Industry Deregulation(Table 2)(Table 2)

1414

State

Intrastate branching

through M&A

Statewide de novo Branching

Permitted

Interstate banking

permitted State

Intrastate branching

through M&A

Statewide de novo Branching

Permitted

Interstate banking

permitted

Alabama 1981 1990 1987Alaska 1960 1960 1982Arizona 1960 1960 1986Arkansas 1994 1999 1989California 1960 1960 1987Colorado 1991 1997 1988Connecticut 1980 1988 1983Delaware 1960 1960 1988District of Columbia 1960 1960 1985Florida 1988 1988 1985Georgia 1983 1998 1985Hawaii 1986 1986 1995Idaho 1960 1960 1985Illinois 1988 1993 1986Indiana 1989 1991 1986Iowa 1997

∗∗∗1991

Kansas 1987 1990 1992Kentucky 1990 2001 1984Louisiana 1988 1988 1987Maine 1975 1975 1978Maryland 1960 1960 1985Massachusetts 1984 1984 1983Michigan 1987 1988 1986Minnesota 1993

∗∗∗1986

Mississippi 1986 1989 1988Missouri 1990 1990 1986Montana 1990 1997 1993

Sources: For intrastate branching, Amel (1993), Osterberg and Thomson (1999), Kroszner and Strahan (1999) and Demyanyk, Ostergaard and Sorenson (2007). For limited intrastate branching, the year is first year of relaxation of instrastate banking restrictions. For interstate banking, Krozner and Strahan (1999) and Demyanyk,

Nebraska 1985

∗∗∗1990

Nevada 1960 1960 1985New Hampshire 1987 1987 1987New Jersey 1977 1996 1986New Mexico 1991 1991 1989New York 1976

∗∗∗1982

North Carolina 1960 1960 1985North Dakota 1987 1996 1991Ohio 1979 1989 1985Oklahoma 1988 2000 1987Oregon 1985 1985 1986Pennsylvania 1982 1989 1986Rhode Island 1960 1960 1984South Carolina 1960 1960 1986South Dakota 1960 1960 1988Tennessee 1985 1990 1985Texas 1988 1988 1987Utah 1981 1981 1984Vermont 1970 1970 1988Virginia 1978 1986 1985Washington 1985 1985 1987West Virginia 1987 1987 1988Wisconsin 1990 1989 1987Wyoming 1988 1999 1987Number restricted prior to 1970 38 38 51Number restricted prior to 1990 5 16 5

Sources: For intrastate branching, Amel (1993), Osterberg and Thomson (1999), Kroszner and Strahan (1999) and Demyanyk, Ostergaard and Sorenson (2007). For limited intrastate branching, the year is first year of relaxation of instrastate banking restrictions. For interstate banking, Krozner and Strahan (1999) and Demyanyk, Ostergaard and Sorenson (2007). For states that deregulated before 1960 the date is listed as 1960, since the actual date of deregulation is unknown.(S), (M) and (C) indicate that prior to the date shown, these states did allow some state, municipal and county branching, respectively, with restrictions. ** indicates that states did not deregulate until after the end of 2001.

US. Banking Industry NowUS. Banking Industry NowSmall Banks Still Around (Table 3)Small Banks Still Around (Table 3)

1515

All Banks< $100M assets

$100M to $1B assets >$1assets

# Banks 7,187 2,937 3,752 498

% of All Banks 100.00 40.87 52.21 6.93

Total Assets (Trillions of $) 11.32 0.16 1.08 10.08

% of Total Assets 100.00 1.40 9.57 89.03

California Banking Industry NowCalifornia Banking Industry NowSmall Banks Still Around (Table 3)Small Banks Still Around (Table 3)

1616

Past Research: Small (“community”) banks are most Past Research: Small (“community”) banks are most prevalent in small urban and rural areas where it is important prevalent in small urban and rural areas where it is important to give office managers broad decision authority and to give office managers broad decision authority and ownership incentives (e.g., Brickley, Linck, Smith (2003))ownership incentives (e.g., Brickley, Linck, Smith (2003))

All Banks< $100M assets

$100M to $1B assets >$1assets

# Banks 288 70 167 51

% of All Banks 100.00 24.31 57.99 17.71

Total Assets (Billions of $) 382.60 4.27 52.84 325.48

% of Total Assets 100.00 1.12 13.81 85.07

Changes in the Banking IndustryChanges in the Banking IndustryEffects on Vertical OrganizationEffects on Vertical Organization

• Prior to 1975 all community banks had Prior to 1975 all community banks had correspondent relations with large money center correspondent relations with large money center and/or regional banksand/or regional banks

• Massive regulatory and technological changeMassive regulatory and technological change• Increased likelihood that community banks will Increased likelihood that community banks will

compete with large banks over retail and commercial compete with large banks over retail and commercial customers customers

• Increased likelihood that a partner in a correspondent Increased likelihood that a partner in a correspondent relationship will disappear due to a takeover or relationship will disappear due to a takeover or mergermerger

1717

Changes in the Banking IndustryChanges in the Banking IndustryEffects on Vertical OrganizationEffects on Vertical Organization

• These developments reduced the apparent These developments reduced the apparent willingness of community banks to:willingness of community banks to:

• Share information with large banks (e.g., about Share information with large banks (e.g., about customers in loan participations) customers in loan participations)

• Make specific investments in correspondent Make specific investments in correspondent relationshipsrelationships

1818

Changes in the Banking IndustryChanges in the Banking IndustryThe Bankers’ BankThe Bankers’ Bank

• Chartered under national and state banking lawsChartered under national and state banking laws• First bankers’ bank was formed in 1975 First bankers’ bank was formed in 1975

(Minnesota)(Minnesota)• Today there are 21 bankers’ banks providing Today there are 21 bankers’ banks providing

services to 1000’s of community banks services to 1000’s of community banks throughout the United Statesthroughout the United States

1919

HypothesesHypotheses

• Bankers’ Banks were an organizational Bankers’ Banks were an organizational response to the increased contacting costs of response to the increased contacting costs of correspondent banking between a community correspondent banking between a community bank and large bankbank and large bank

• Achieve economies of scaleAchieve economies of scale• Maintain local asset ownershipMaintain local asset ownership• Alternative: Contract with an independent providerAlternative: Contract with an independent provider

2020

Hypothesis 1 and 2Hypothesis 1 and 2When and Why They First AroseWhen and Why They First Arose

• Bankers’ banks are most likely to be formedBankers’ banks are most likely to be formed• In markets with a lot of community banksIn markets with a lot of community banks

• Sufficient customer baseSufficient customer base

• In markets with most prior regulationIn markets with most prior regulation• The The changechange in potential competition drove the need for the in potential competition drove the need for the

bankers’ bankbankers’ bank• Thus, states that were mostly strongly regulatedThus, states that were mostly strongly regulated

2121

Hypothesis 3 and 4Hypothesis 3 and 4Who Uses a Bankers’ BankWho Uses a Bankers’ Bank

• Community banks that are most likely to face Community banks that are most likely to face competition from large banks are the most likely competition from large banks are the most likely to join a bankers’ bankto join a bankers’ bank

• Community banks located in areas where the Community banks located in areas where the competition from large banks is likely to changecompetition from large banks is likely to change

• Near large metropolitan areas or in midsize urban areasNear large metropolitan areas or in midsize urban areas

• Community banks with a large fraction of loans based Community banks with a large fraction of loans based on “hard” information or with large customerson “hard” information or with large customers

• Larger fraction of construction loans and mortgage loans; Larger fraction of construction loans and mortgage loans; customers with large depositscustomers with large deposits

2222

Bankers’ BanksBankers’ Banks

• National and state chartersNational and state charters• Provide services only to other banksProvide services only to other banks• Owned by their customer institutions, who also sit on Owned by their customer institutions, who also sit on

the boardthe board• Can provide services to banks that are not Can provide services to banks that are not

shareholdersshareholders• Shareholders receive preferred pricing, voting rights and Shareholders receive preferred pricing, voting rights and

dividendsdividends

• Generally operate in more than one stateGenerally operate in more than one state• Unlikely to merge with another bank (individual banks Unlikely to merge with another bank (individual banks

cannot own more than 5% of the shares)cannot own more than 5% of the shares)

2323

Bankers’ Banks (Table 4)Bankers’ Banks (Table 4)

2424

Found Name Current Coverage(3)

Assets ($000s) Empl

Assets / Empl

1975 United Bankers' Bank MN*, IA, ND, SD, NE, MT, WY 346,525 79 4,386

1980 Bankers' Bank of the West CO*, AZ, ID, IA, MT, NE, NM, UT, WY 388,047 41 9,465

1981 Bankers' Bank WI*, IA 302,300 80 3,779

1982 Texas Independent Bank TX*, NM, OK, LA, AZ, CA, KS, MO 1,603,688 344 4,662

1983 The Great Lakes Bankers' Bank OH*, MI, IN, WV 43,189 10 4,319

1983 Independent Bankers' Bank of FL FL*, GA, AL 373,050 93 4,011

1983 Atlantic Central Bankers Bank PA*, DE, MD, NJ, NY 408,583 57 7,168

1984 First National Banker's Bank(1)

LA*, MS, AL, TN, TX 273,043 86 3,175

1985 Midwest Independent Bank(2)

MO*, IA, NE, SD 305,983 37 8,270

1986 The Bankers' Bank GA*, AL, NC, TN, FL, SC, IL 2,075,580 318 6,527

1986 The Bankers Bank OK* 170,665 38 4,491

1986 Independent Bankers' Bank IL*, IN 489,624 75 6,528

1987 Community Banker's Bank VA*, MD, WV, NC, SC, DC 138,653 20 6,933

1988 The Bankers' Bank of Kentucky KY*, IN, TN, WV 52,256 29 1,802

1988 Banker's Bank of Kansas, N.A. KS* 103,489 43 2,407

1990 Arkansas Bankers' Bank AR* 166,864 25 6,675

1997 Pacific Coast Bankers' Bank CA*, WA, OR, NV, AZ, HI 484,957 44 11,022

1998 Bankers' Bank, Northeast CT*, MA, NH, NY, RI, VT 97,186 20 4,859

2000 Mississipi National Bankers' Bank(1)

MS* 118,938 9 13,215

2002 Nebraska Bankers' Bank, N.A.(2)

NE* 42,562 5 8,512

2004 Alabama Banker's Bank, N.A.(1)

AL* 174,421 14 12,459

Typical ServicesTypical Services

• participation loans participation loans • cash letter services (check clearing)cash letter services (check clearing)• sweep accounts sweep accounts • on-line correspondent bankingon-line correspondent banking• credit card servicescredit card services• international servicesinternational services• consulting services, audit and compliance services, consulting services, audit and compliance services,

investmentsinvestments• federal funds transactionsfederal funds transactions• mortgage lending programsmortgage lending programs• direct loans to officers and directors of community banksdirect loans to officers and directors of community banks

2525

Hazards of Corresponding with a Hazards of Corresponding with a Large Potential CompetitorLarge Potential Competitor

• ““Steal” your customersSteal” your customers• Can have incentives to increase your costs Can have incentives to increase your costs

(Salop & Scheffman (1987))(Salop & Scheffman (1987))

2626

Bankers’ BanksBankers’ BanksTypical Marketing StatementTypical Marketing Statement

““As corporate ‘megabanks’ expand, correspondent service As corporate ‘megabanks’ expand, correspondent service to non-affiliated banks declines. to non-affiliated banks declines.

Being commercial banks, such banks compete with other Being commercial banks, such banks compete with other financial institutions, including their own correspondents, financial institutions, including their own correspondents, for business. for business.

In fact, you may find that they use information you provide In fact, you may find that they use information you provide them through the correspondent system to compete for them through the correspondent system to compete for your customers, furthering their interests at your your customers, furthering their interests at your expense! Since a bankers' bank cannot deal with the expense! Since a bankers' bank cannot deal with the general public, such a conflict of interest cannot occur. general public, such a conflict of interest cannot occur. Your interests are our interests.” Your interests are our interests.”

2727

Bankers’ Bank of Kansas, N.A.http://www.bbok.com/

Statement by a Community BankerStatement by a Community Banker

““Many client banks today are faced with a paradox. To attract business, Many client banks today are faced with a paradox. To attract business, they must offer services that often are available through their large they must offer services that often are available through their large competitors operating as correspondent banks, but that places them competitors operating as correspondent banks, but that places them in the unenviable position of doing business with the competition.in the unenviable position of doing business with the competition.

Why did we invest in Bankers’ Bank? It is simple, we didn’t want to Why did we invest in Bankers’ Bank? It is simple, we didn’t want to feed fees to the gorilla that could turn around and eat us up.”feed fees to the gorilla that could turn around and eat us up.”

Thomas R. Burton, President and Thomas R. Burton, President and CEO CEO

Hamden Bank Hamden Bank

Springfield, MASpringfield, MA

2828

From the Bankers’ Bank CouncilFrom the Bankers’ Bank Council

A bankers’ bank is a correspondent bank that is owned, operated, and A bankers’ bank is a correspondent bank that is owned, operated, and directed by the independent community banks it serves. directed by the independent community banks it serves. Correspondent banking isn't a sideline for a bankers' bank - - it's our Correspondent banking isn't a sideline for a bankers' bank - - it's our only business. And because many customers are also only business. And because many customers are also shareholders, we're answerable to them not only as our customers, shareholders, we're answerable to them not only as our customers, but also as investors. Superior service and competitive pricing are but also as investors. Superior service and competitive pricing are the result.” …“Bankers' banks are the answer. Bankers' banks can the result.” …“Bankers' banks are the answer. Bankers' banks can do everything a major holding company correspondent bank can do, do everything a major holding company correspondent bank can do, but bankers’ banks do not compete for your customers. but bankers’ banks do not compete for your customers.

2929

Empirical ResultsEmpirical Results

• First bankers’ bank in 1975, most (14 or 67%) First bankers’ bank in 1975, most (14 or 67%) formed in the 1980s (Table 3)formed in the 1980s (Table 3)

• Coincided with relaxation of restrictions on geographic Coincided with relaxation of restrictions on geographic expansion (Table 2)expansion (Table 2)

3030

Regulatory Chg/Concentration (T5)Regulatory Chg/Concentration (T5)

3131

Relaxation of Restrictions (1)

Bank ConcentrationNum of Banks Banks per 100k pop Herfindahl Index

Founded State

Intrastate branching through M&A

Statewide de novo

Branching Permitted

Interstate banking permitted 1975

Rank(1=most) 1975

Rank (1= highest) 1975

Rank (1= lowest)

1975 Minnesota 1993

∗∗∗1986 745 3 19.0 8 0.0308 19

1980 Colorado 1991 1997 1988 277 20 10.7 14 0.0364 231981 Wisconsin 1990 1989 1987 623 7 13.6 11 0.0241 141982 Texas 1988 1988 1987 1,335 1 10.6 16 0.0199 91983 Ohio 1979 1989 1985 495 9 4.6 30 0.0230 121983 Florida 1988 1988 1985 742 4 8.7 20 0.0069 11983 Pennsylvania 1982 1989 1986 392 14 3.3 33 0.0529 271984 Louisiana 1988 1988 1987 254 23 6.5 26 0.0255 161985 Missouri 1990 1990 1986 700 5 14.6 10 0.0200 101986 Georgia 1983 1998 1985 440 12 8.7 19 0.0590 291986 Oklahoma 1988 2000 1987 462 10 16.7 9 0.0236 131986 Illinois 1988 1993 1986 1,206 2 10.7 15 0.1195 331987 Virginia 1978 1986 1985 290 19 5.7 28 0.0321 211988 Kentucky 1990 2001 1984 341 17 9.8 17 0.0283 171988 Kansas 1987 1990 1992 615 8 27.0 2 0.0077 21990 Arkansas 1994 1999 1989 258 22 12.0 12 0.0137 61997 California 1960 1960 1987 200 26 0.9 49 0.2720 471998 Connecticut 1980 1988 1983 71 39 2.3 42 0.1388 362000 Mississippi 1986 1989 1988 185 27 7.7 23 0.0397 262002 Nebraska 1985

∗∗∗1990 448 11 29.1 1 0.0190 8

2004 Alabama 1981 1990 1987 299 18 8.1 21 0.0300 18Average for all states with bankers' banks 494 14 11.0 19 0.0487 18Average for all states without bankers' banks 133 34 7.0 31 0.1429 31p-value from difference in means tests (<0.01) (<0.01) (0.07) (<0.01) (<0.01) (<0.01)

Independent Variables (Table 6)Independent Variables (Table 6)

3232

Panel A - Summary statistics for independent variables as of 1975Variable Mean Std. Dev. Min Max

Log(Number of banks in 1975) 4.9119 1.3928 2.0794 7.1967

Herfindahl index of banking asset concentration in 1975 0.1041 0.1071 0.0069 0.4080

Indicator is 1 if the state did not restrict branching prior to 1970 0.3333 0.4761 0.0000 1.0000

Log(Population of state in 1975) 14.7595 1.0447 12.8236 16.8853

Indicator is 1 if the state has a federal reserve district bank or branch 0.5294 0.5041 0.0000 1.0000

Banks per 100k population in 1975 8.6443 7.6603 0.6561 29.0597

Correlation of Ind Variables (Table 6)Correlation of Ind Variables (Table 6)

3333

Panel B - Correlation Matrix of independent variables as of 1975

Number of Banks Herfindahl

Regulation Dummy

State Population

Fed Dummy

Banks per Capita

Log(Number of banks in 1975) 1.000

Herfindahl index of banking asset concentration in 1975 -0.771 1.000

Indicator is 1 if the state did not restrict branching prior to 1970 -0.443 0.518 1.000

Log(Population of state in 1975) 0.685 -0.229 -0.237 1.000

Indicator is 1 if the state has a federal reserve district bank or branch 0.548 -0.203 -0.250 0.618 1.000

Banks per 100k population in 1975 0.507 -0.627 -0.122 -0.201 -0.017 1.000

Is a BB HQ’d in State? (Table 7)Is a BB HQ’d in State? (Table 7)

3434

Model # Predicted 1 2 3 4 5 6

Year (that BB Exists) Sign 1990 1990 2006 2006 1990 2006Number of observations 51 51 51 51 51 51

Intercept -29.164*** -29.068 -12.135*** -14.383* -72.265** -36.165***(0.008) (0.116) (0.001) (0.075) (0.016) (0.005)

Log(Number of banks in 1975) + 5.154*** 8.890** 2.265*** 2.111***(0.008) (0.044) (<0.001) (0.003)

Banks per 100k population in 1975 + 0.497** 0.235***

(0.016) (0.007)

Indicator is 1 if the state did not restrict branching prior to 1970 - -4.057** -7.595* -1.052 -1.160 -6.612** -2.648**

(0.042) (0.069) (0.299) (0.265) (0.013) (0.033)

Log(Population of state in 1975) + -1.685 0.155 4.301** 2.220***(0.274) (0.775) (0.018) (0.007)

Indicator is 1 if the state has a federal reserve district bank or branch + 4.925 1.173 3.315** 1.354

(0.116) (0.222) (0.048) (0.154)

Likelihood Ratio Chi-square 42.29 47.99 32.60 34.65 40.14 32.61

(p-value) (<0.001) (<0.001) (<0.001) (<0.001) (<0.001) (<0.001)

Pseudo R2 0.564 0.610 0.472 0.493 0.545 0.472

Is Bank a BB Customer? (Table 8)Is Bank a BB Customer? (Table 8)

3535

Model #Predicted

Sign Model 1 Model 2 Model 3 Model 4 Model 5Number of observations 1,095 1,095 1,095 1,095 1,095

Intercept -7.128** -5.303 -2.167*** 1.415 -2.716(0.026) (0.107) (<0.001) (0.186) (0.420)

Log(distance to large MSA) - -0.018 0.007 0.062(0.710) (0.888) (0.241)

[-0.005] [0.002] [0.019]

Log(county population) + 1.028* 1.236** 0.705(0.065) (0.028) (0.221)

[0.430] [0.520] [0.265]

Log(county population) squared - -0.046* -0.054** -0.032(0.053) (0.026) (0.187)

[-0.142] [-0.145] [-0.115]

Farm loans / assets - -2.513 -3.787 -6.217(0.586) (0.418) (0.225)

[-0.007] [-0.010] [-0.016]

Construction loans / assets + 2.452 3.074 4.445**(0.194) (0.105) (0.027)

[0.014] [0.017] [0.025]

Residential mortgage loans / assets + 4.942*** 4.932*** 5.062***(<0.001) (<0.001) (<0.001)

[0.052] [0.051] [0.052]

Is Bank a BB Customer? (Table 8)Is Bank a BB Customer? (Table 8)

3636

Model #Predicted

Sign Model 1 Model 2 Model 3 Model 4 Model 5Number of observations 1,095 1,095 1,095 1,095 1,095

Log(total assets) -0.297*** -0.351*** -0.318***(0.006) (<0.001) (0.004)

[-0.032] [-0.036] [-0.033]

Dummy=1 if exists before BB in state -0.198 0.138 0.006(0.340) (0.495) (0.977)

[-0.028] [0.018] [0.001]

p-value (Joint Tests) (0.061) (0.030) (0.368) (0.436) (0.268)

Likelihood Ratio Chi-square 4.61 17.25 24.07 35.58 42.30

(p-value) (0.203) (0.004) (<0.001) (<0.001) (<0.001)

Pseudo R2 0.004 0.016 0.022 0.032 0.038

BB Boards (Table 9)BB Boards (Table 9)

3737

Characteristics of board members' banks

ST Founded Name / Description NSize

($000s) PopulationDistance to Large MSA

MN 1975 United Bankers' Bank 6 52,241 156,407 43.5

CO 1980 Bankers' Bank of the West 13 125,395 37,544 69.6

WI 1981 Bankers' Bank 9 178,755 98,031 57.4

TX 1982 Texas Independent Bank 15 199,996 36,303 65.5

OH 1983 The Great Lakes Bankers' Bank 4 209,622 40,353 27.1

FL 1983 Independent Bankers' Bank of Florida 8 173,597 399,401 30.7

PA 1983 Atlantic Central Bankers Bank 6 305,535 321,891 18.5

LA 1984 First National Banker's Bank 11 238,356 27,543 83.0

MO 1985 Midwest Independent Bank 11 59,316 27,786 26.1

GA 1986 The Bankers' Bank 12 345,613 115,399 42.4

OK 1986 The Bankers Bank 12 96,486 44,581 26.9

IL 1986 Independent Bankers' Bank 12 115,556 49,507 27.2

VA 1987 Community Banker's Bank 6 264,632 79,555 25.2

KY 1988 The Bankers' Bank of Kentucky 9 102,944 14,334 39.9

KS 1988 Banker's Bank of Kansas, N.A. 11 73,934 27,982 41.4

AR 1990 Arkansas Bankers' Bank 6 224,284 42,551 44.0

CA 1997 Pacific Coast Bankers' Bank 7 244,425 743,852 13.7

CT 1998 Bankers' Bank, Northeast 9 315,452 460,874 16.5

MS 2000 Mississipi National Bankers' Bank #N/A #N/A #N/A #N/A

NE 2002 Nebraska Bankers' Bank, N.A. 6 41,681 21,478 39.7

AL 2004 Alabama Banker's Bank, N.A. #N/A #N/A #N/A #N/A

BB Boards (Table 9)BB Boards (Table 9)

3838

Characteristics of board members' banks

ST Founded Name / Description NSize

($000s) PopulationDistance to Large MSA

All banks on bankers' banks' boards 173 132,732 47,338 41.6

All other banks < $1b in assets 7,437 100,313 49,523 54.7

All other banks 7,914 108,459 57,984 52.8

Bank Represented on BB Board? (T10)Bank Represented on BB Board? (T10)

3939

Model #Predicted

Sign Model 1 Model 2 Model 3 Model 4 Model 5Number of observations 7,591 7,587 7,582 7,579 7,579

Intercept -10.405*** -14.434*** -4.070*** -10.644*** -16.665***(0.002) (<0.001) (<0.001) (<0.001) (<0.001)

Log(distance to large MSA) - -0.145*** -0.129** -0.135***(0.003) (0.011) (0.008)

[-0.005] [-0.004] [-0.004]

Log(county population) + 1.368** 0.891 1.241**(0.021) (0.125) (0.042)

[0.184] [0.062] [0.119]

Log(county population) squared - -0.065** -0.044* -0.059**(0.011) (0.075) (0.024)

[-0.020] [-0.014] [-0.015]

Deposits > 100k / Assets + 0.492 0.658 1.075(0.467) (0.402) (0.186)

[0.001] [0.001] [0.002]

Farm loans / assets - 1.630 2.238 2.608*(0.244) (0.116) (0.086)

[0.002] [0.002] [0.003]

Construction loans / assets + 1.691* 1.972* 1.596(0.081) (0.056) (0.133)

[0.003] [0.003] [0.002]

Residential mortgage loans / assets + -0.039 -0.337 -0.719(0.954) (0.639) (0.340)

[-0.000] [-0.001] [-0.001]

Bank Represented on BB Board? (T10)Bank Represented on BB Board? (T10)

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Model #Predicted

Sign Model 1 Model 2 Model 3 Model 4 Model 5Number of observations 7,591 7,587 7,582 7,579 7,579

Log(total assets) 0.451*** 0.422*** 0.419***(<0.001) (<0.001) (<0.001)

[0.010] [0.009] [0.009]

Dummy=1 if exists before BB in state 0.928*** 0.940*** 0.896***(<0.001) (<0.001) (<0.001)

[0.015] [0.015] [0.014]

Dummy=1 if exist pre-1995 0.826** 1.033** 1.047**(0.049) (0.016) (0.016)

[0.011] [0.013] [0.013]

p-value (Joint Tests) (0.011) (0.079) (0.726) (0.975) (0.025)

Likelihood Ratio Chi-square 15.09 89.77 4.73 86.75 99.23(p-value) (0.002) (<0.001) (0.316) (<0.001) (<0.001)

Pseudo R2 0.002 0.012 0.001 0.011 0.013

ConclusionsConclusions

• Banking industry created an organizational Banking industry created an organizational innovation: The Bankers’ Bankinnovation: The Bankers’ Bank

• Serve the needs of community banksServe the needs of community banks• Maintain incentives of local asset ownership while still Maintain incentives of local asset ownership while still

achieving economies of scale without threat of achieving economies of scale without threat of stealing their customersstealing their customers

• Cooperative in this settingCooperative in this setting• Costs of independent contracting highCosts of independent contracting high• Benefits of local ownership highBenefits of local ownership high• Costs of cooperative low: costs of free-riding low due to Costs of cooperative low: costs of free-riding low due to

relatively frequent purchasesrelatively frequent purchases

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