Do local labor market conditions impact bank profitability?

Abstract

AbstractThis paper studies the impact of local unemployment shocks on bank profitability. Our work advances on previous studies that use national‐ or state‐level data, as we create a bank‐specific measure of local unemployment in which the bank has exposure. Using this novel measure, we determine how shocks to unemployment affect each individual bank's profitability. Our results indicate that an increase in the local market unemployment rate decreases bank profitability on average by 3.2%. The impact of local market conditions on profitability is stronger for banks that are large, operate in more markets, face more competition, and have a greater reliance on lending. We further examine what components of bank profitability are most impacted by local labor market conditions and find that net interest income is most impacted.