Dominant banks, market power, and out-of-market productive capacity

Abstract

This study examines the link between the market power of dominant local banks and the existence of fringe competitors with access to out-of-market productive capacity. Alternative models of dominant-firm market power are presented and estimated from a sample of banking markets drawn from unit banking states. The results provide some support for the hypothesis that the existence of out-of-market productive capacity available to fringe banks serves to attenuate the market power of dominant local banking organizations. However, the estimated relationship between the market share and market power of the dominant bank is so strong that any such attenuation effect is, from a practical standpoint, unimportant, at least for this sample of markets. Finally, the widely touted suggestion to account for the attenuation effect of out-of-market productive capacity by simply modifying market shares is not appropriate for this sample.