Bank competition ; Banking market ; Money market deposit account ; California ; Banks and banking - West

Gary C. Zimmerman

Michael C. Keeley

English

Research Papers in Economics

FRBSF WEEKLY LETTER
September 6, 1985
Geographic Deposit Competition
In this Letter, we summarize several pieces of
empirical evidence on the geographic scope (j.e.,
the size) of deposit markets for money market de-
posit accounts (MMDAs) and Super NOW
accounts. In particular, we focus on whether the
competition for these two types of deposit
accounts is statewide orconfined within
metropolitan areas.
Knowing adeposit market's geographic scope is
important because it is a key influence on the
degree of competition for deposits, and thus the
level ofdepositrates, in a market. If markets were
small in scope - limited to metropolitan areas or
towns, for example - competition might be
limited, at least in areas with very few banks.
However, if deposit markets were statewide in
scope, deposit competition in states with a large
number of banks likely would be intense even in
towns with only afew banks because each bank
wouldbe in competition with every other bank in
the state.
The definition of amarket
In ageographic deposit market, the forces of sup-
ply and demand interact to determine the deposit
interest rate, fees or other nonrate terms, service
levels, and the quantity of deposits in that market.
Depositors supply deposit funds to earn interest
(and to receive services) and banks demand funds
to make loans. Within adeposit market, arbitrage
will tend to force banks' deposit rates toward
uniformity. Thus, if two regions were in the same
market, interest rates in the two areas would tend
to be equal.
A market includes the suppliers (depositors) and
demanders (depository institutions, hereafter
referred to as banks) that are important compo-
nents of the determination of deposit rates. For
example, if depositors at location A found banks at
locations Band C to be equally convenient, then
locations A, Band C would be in the same market
because banks at locations Band C would have to
compete with one another for deposits from loca-
tion A. In economic terms, banks in locations Band
C would be good substitutes for the depositors in
location A.
However, even ifdepositors found only banks near
them to be good substitutes, deposit markets
would not necessarily be small. Entry and threat of
entry by banks not currently in the area, competi-
tion by nondepository institutions (such as money
funds) offering substitute services, or competition
by institutions on the border of a region may result
in a significant degree of competition among local
areas even though these local"markets" are some-
what insulated from one another. Thus, the
behaviors of both banks and depositors play key
roles in determining the size of deposit markets.
For some types ofdeposits, such as those with a
large transaction service component (e.g., the
Super NOW), a depositor may consider only banks
within a small region to be good substitutes.
Markets for transactionaccounts are likely to be
smaller than for other types of accounts because of
the high value depositors may place on the conve-
nience of local banks' check clearing, depositing,
and cashing services. Thus, the supply ofthese
types ofdeposits may be local. However, as dis-
cussed above, a local supply of deposits alone
does not mean the deposit market itself is
necessarily local.
An analysis of markets
Mostprevious researchers studying competition in
retail banking have assumed that deposit markets
are local - a local market being proxied by a
metropolitan area. However, at least in states that
permit unrestricted branching, we think that com-
petition for some types of deposits may take place
in statewide markets.
Through a survey, we have determined that vir-
tually all multiple-branch banks in the West pay
common rates on deposits at all branches. This
suggests that either there are no local differences
in competition or, even if there were, banks with
large branch networks do not find it worthwhile to
exploit them. One reason why it may not be
worthwhile to pay different rates atdifferent
branches is that adepositor can open an account
at the branch with the highest rate yet use deposit
aDd transaction services at the most convenient
branch. Such uniform pricing by several of the largeFRBSF
banks with branches in many areas may make it
unprofitable for other banks to price differently.
However, since branching across state lines is not
currently permitted, markets in different states may
be somewhat insulated from one another.
Within a deposit market, supply and demand
determinethe deposit interest rate. Thus, a
difference in the levels of deposit interest rates in
two areas suggests the areas are in separate
markets (because either supply or demand is
different). Likewise, since shifts in either supply or
demand within a market would affectall banks' de-
posit interest rates similarly, deposit rates within a
market should be more highly correlated with one
another than with rates in other markets. In our
analysis of the geographic scope of deposit
markets, we looked at both sorts ofevidence.
Our study is based on an analysis ofexplicit de-
posit interest rates on MMDAs and Super NOWs
- two accounts that have been free of interest
ceilings since their inceptions and which now
account for 21 and 2 percent of total domestic de-
posits, respectively. (A more detailed analysis
appears in this Bank's 1985 Summer Economic
Review.) The data are from a monthly Federal
Reserve survey of 59 commercial banks in the
Twelfth Federal Reserve District.
Charts 1 and 2 summarize how deposit rates at the
state level and at the metropolitan area level
within California behave for the MMDA and Super
NOW accounts, respectively. We used the Rand
McNally definition of metropolitan areas known as
RMAs.
For the MMDA, there are some differences in the
level as well as the time pattern of rates among
western states. Both suggest that MMDA markets
are not larger than states. Hawaii, in particular, with
a low and relatively constant rate, appears to be in
a different market. Statistical analysis of these data
confirms that the differences in the average level of
MMDA rates among the states are statistically sig-
nificant, even with Hawaii excluded.
However, as Chart1 Panel Bshows, there are vir-
tually no differences in the averag~level of MMDA
rates among RMAs (an average of rates paid by all
banks with offices in an RMA) in California.
Moreover, MMDA rates among California RMAs
are almost perfectly correlated with one another
and evidence not presented in the charts indicates
that they are much more highly correlated with
one another than with rates in RMAs outside the
state. This is further evidence of statewide but not
local MMDA deposit markets. In sum, for the
MMDA, we find no evidence of local markets but
strong evidence of statewide markets.
For the Super NOW (see Chart 2), differences in
the level of rates among the states is staggering,
averaging a difference of over 200 basis points be-
tween the highest and lowest. Moreover, there is a
marked difference in the time pattern of rates
among the states, that is, mean rates in eacQstate
are not highly correlated with mean rates in the
other states. Thus, the evidence suggests that
Super NOW markets also are not larger than states.
However, as Chart 2 Panel Bshows, there are
apparent differences in the level of Super NOW
rates among RMAs in California, especially during
the February-September 1983 period. Statistical
analysis confirms these differences are significant.
Thus, these inter-RMA differences in rates suggest
the markets for Super NOWs are local. However,
as Chart 2 shows, the rate differences among
RMAs are small compared to the interstate
differences. Thus, although there may be distinct
local markets for Super NOWs, there is apparently
a much higher degree of competition among them
than amongthe states.
Service competition
The analysis of markets illustrated by Charts 1 and
2 is based solely on explicit deposit rates.
However, competition in the services offered (non-
rate competition) also may be important, especially
for transaction accounts. Since we are unable to
measure service competition, it is possible that
differences in the total return (implicit plus explicit)
to depositors would be either larger or smaller than
the differences in explicit rates shown in the chart.
Moreover, differences in fees or minimum balances
(which we do notobserve) also could lead to
either larger or smaller differences in true (net of
fees) deposit rates than in the explicit rates we
observed. However, as long as nonpriced service
levels or fees do notvary rapidly over time relative
to explicit rates, the correlation of rates within rela-
tive to among areas would not be affected.Panel A.
Percent
Chart 1
Mean MMDA Rates by State
Panel A.
Perceint
Chart 2
Mean Super NOW Rates by State
11
10
9
8
7L.L................':':':-.................................~.....................
9
Panel B.
Mean MMDA Rates By California RMA
Percent (Variation within California)
Panel B.
Mean Super NOW Rate By California RMA
(Variation within California)
Percent
1985 1984
5L..L..L.L---'---.L.L--'--J---'---.L.L---'-L..L..L.L---'---LL--'--l---'---.L.l
1983
6
8
7
9
1985 1984
7L..L..L.L--'--J---'---.L.L--'--l---'---LL..L.L---'-Ll-.L.L--'--l---'---.l-J
1982
8
9
10
11
Conclusions
Both differences in levels and differences in the
time patterns ofMMDA and Super NOWrates
among western (Twelfth Federal Reserve District)
states suggest that the markets for both of these
deposit accounts are no larger than states.
For the Super NOW, there are also small (but
statistically significant) differences in rates among
California RMAs, which suggest Super NOW de-
posit markets may be local, although these
differences could be due to unmeasured
differences in fees or service competition. This sug-
gests that if differences in explicit rates are due to
the existence of local Super NOW markets, these
local markets are notwell insulated from one
another. However, the differences in rates among
RMAs are much smaller than the interstate
differences.
For the MMDA, we find no evidence of local de-
posit markets - mean rates are virtually the same
in all California RMAs, are almost perfectly corre-
lated with one another, and are morl? highly corre-
lated with one another than with rates in other
states. Thus, itappears there is a higher degree of
competition among California RMAs forMMDA
deposits than for Super NOW deposits, perhaps
because the supply of transaction deposits is more
local than savings deposits.
These results may not be surprising given the
unrestricted statewide branch banking in California
and the uniform pricing by multiple branch banks.
In California especially, where the five largest
banks have huge branch networks and are repre-
sented in virtually all of the RMAs, it is likely that
competition among RMAs would be intense.
Moreover, if unrestricted branching within a state
does in fact lead to statewide MMDA deposit
markets, then regional or national branching may
lead to regional or nationwide MMDA deposit
markets. Thus, as interstate banking progresses, we
would expect to see MMDA depost markets
expanding geographically.
Michael C. Keeley and Gary C. Zimmerman
Opinionsexpressed in this newsletterdo not necessarily reflect theviews of the managementof the Federal Reserve Bank ofSan
Francisco,orofthe Board ofGovernorsofthe Federal Reserve System.
Editorial commentsmaybeaddressedtotheeditor(GregoryTong) ortotheauthor....Freecopiesof Federal Reserve publications
can beobtained from the Public Information Department, Federal Reserve Bank ofSan Francisco, P.O. Box 7702, San Francisco
94120. Phone (415) 974-2246.uo~6u!4S0m 4o~n U060JO
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BANKING DATA-TWELFTH FEDERAL RESERVE DISTRICT
(Dollar amounts in millions)
Selected Assets and Liabilities
Large Commercial Banks
Amount
Outstanding
8121/85
Change
from
8/14/85
Change from 8/22/84
Dollar Percent!
Loans, Leases and Investmentsl 2 192,372 241 11,530 6.3
Loans and Leases1 6 173,870 307 11,916 7.3
Commercial and Industrial 50,490 - 174 1,277 2.5
Real estate 64,285 79 3,426 5.6
Loans to Individuals 35,368 74 6,074 20.7
Leases 5,426 6 387 7.6
U.S. Treasury and Agency Securities2 11,501 - 103 - 349 - 2.9
Other Securities2 7,001 38 - 36 - 0.5
Total Deposits 196,711 - 1,323 8,750 4.6
Demand Deposits 45,751 - 1,155 2,698 6.2
Demand Deposits Adjusted3 31,095 46 3,226 11.5
OtherTransaction Balances4 13,637 - 351 1,443 11.8
Total Non-Transaction Balances6 137,322 183 4,608 3.4
MoneyMarket Deposit
Accounts-Total 44,880 - 151 7,181 19.0
Time Deposits in Amounts of
$100,000 or more 38,104 148 - 3,074 - 7.4
Other Liabilities for Borrowed MoneyS 22,103 - 232 2,713 13.9
Two WeekAverages
of Daily Figures
Reserve Position, All Reporting Banks
Excess Reserves (+)/Deficiency(-)
Borrowings
Net free reserves (+)/Net borrowed(-)
Period ended
8/12/85
12
59
46
Period ended
7/29/85
67
19
47
1 Includes loss reserves, unearned income, excludes interbank loans
2 Excludes trading account securities
3 Excludes u.s. government and depository institution deposits and cash items
4 ATS, NOW, Super NOW and savings accounts with telephone transfers
S Includes borrowingvia FRB, TT&L notes, Fed Funds, RPs and other sources
6 Includes items notshown separately
7 Annualized percent change

Geographic deposit competition

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Geographic deposit competition

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