Have Barriers to Entry in Retail Commercial Banking Disappeared?

• DOI: 10.1177/0003603X9704200406
• Author: Stephen A. Rhoades
• Date: 01 December 1997
• Published date: 01 December 1997
• Subject Matter: Economic

The Antitrust Bulletin/Winter 1997

Have barriers to entry in retail

commercial banking disappeared?

BY STEPHEN A. RHOADES*

I. Introduction

997

Have barriers to entry in retail commercial banking disappeared?

The

answer

is

both

yes

(substantially)

and no

depending

on

whether one is referring to legal or market-based barriers to entry.

Legal barriers to entry, at least by established firms, have substan-

tially disappeared as a result of the liberalization

of

state and fed-

eral

laws

with

respect

to

geographic

expansion

by

banking

organizations.IThe states began the liberalization in the 1980s as

many

of

them

passed

laws to allow

statewide

branching

and

permit interstate banking via bank holding companies, typically

on a reciprocal basis with other states, often through regional

*Federal Reserve Board, Washington, DC.

AUTHOR'S

NOTE: The views expressed herein are the author's and do not

necessarily reflect the views

of

the Federal Reserve Board. I extend thanks

to Dean Amel and Myron Kwast

for

useful comments on the article.

New firms must still obtain a state or federal charter to operate,

and some states continue to have some restrictions on branching, such as

home-office protection laws.

©1998 by Federal Legal Publications. Inc.

998

The antitrust bulletin

compacts.> The liberalization of geographic expansion opportuni-

ties culminated with passage of the Riegle-Neal Act in 1994. 3

This

legislation permitted interstate banking

via

bank holding

companies effective September 29, 1995 and via branches effec-

tive June 1,1997.

Although it is clear that legal barriers to entry into local retail

banking markets have declined, it is a mistake to assume that bar-

riers to entry generally have disappeared in banking. Indeed, a

key thesis of this article is that "switching costs," which are a bar-

rier to entry, are unusually high in retail banking. Both economic

theory and empirical evidence suggest that market-based barriers

to entry

continue

to be significant in retail banking. Thus, to

assume that barriers to entry have generally disappeared in retail

banking would give rise to a misguided competition policy toward

bank

mergers, whereby any possible public benefit from bank

mergers in the aggregate may be offset by adverse effects on com-

petition. The effects of such a policy would be substantial and

widespread because the industry continues to undergo an unprece-

dented merger movement that is likely to continue for some time.s

It is notable that it is possible to have an extraordinary consolida-

tion (resulting in a maximum of only five or six remaining bank-

ing organizations in any local market)

of

the industry under current

merger guidelines and standards.> Thus, even if one believes that

2

Reduction

of

restrictions on

geographic

expansion

by the

states

is

described

in

AMEL,

STATE

LAWS

AFFEcrING

THE

GEOGRAPHIC

EXPANSION

OF

COMMERCIAL

BANKS

(Working

Paper,

Federal

Reserve

Board,

Sept.

1993)

and

Savage,

Interstate Banking: AStatus Report, 79 FED. RES.

BULL.

1075

(1993).

The

Riegle-Neal

Interstate

Banking

and

Branching

Efficiency

Act

of

1994,

Pub.

L. No. 103-328, 108 Stat.

2338

(codified

in

scattered

sec-

tions

of

titles

7

and

12

of

the

United

States

Code).

4

RHOADES,

BANK

MERGERS

AND

INDUSTRY

WIDE

STRUcrURE,

1980-94

(Staff

Study

No. 169, Federal

Reserve

Board,

Jan. 1996).

Results

of

simulations

of

all

possible

horizontal

(in-market)

bank

mergers

under

current

numerical

guidelines,

without

accounting

for

"mit-

igating"

factors

that

would

aIlow

even

more

mergers,

are

presented

in

Rhoades,

Consolidation

of

the Banking Industry and the Merger Guide-

lines, 37

ANTITRUST

BULL.

689

(1992).