The dollars and sense of bank consolidation

For nearly two decades banks in the US have consolidated in record numbers - in terms of both frequency and the size of the merging institutions. Rhoa des (1996) (S.A. Rhoades, 1996. Bank Mergers and Industrywide Structure, 19 80-1994. Board of Governors of the Federal Reserve System, Staff Study 169) hypothesizes that the main motivations were increased potential for geogra phic expansion created by changes in state laws regulating branching and a more favorable antitrust climate. To look for evidence of economic incentiv es to exploit these improved opportunities for consolidation, we examine ho w consolidation affects expected profit, the riskiness of profit, profit ef ficiency, market value, market-value efficiencies, and the risk of insolven cy. Our estimates of expected profit, profit risk, and profit efficiency ar e based on a structural model of leveraged portfolio production that was es timated for a sample of highest-level US bank holding companies by Hughes e t al. (1996) (Hughes et al., 1996. Efficient banking under interstate branc hing, Journal of Money, Credit, and Banking 28, 1045-1071.) Here, we also e stimate two additional measures that gauge efficiency in terms of the marke t values of assets and of equity. Our findings suggest that the economic be nefits of consolidation are strongest for those banks engaged in interstate expansion and, in particular, interstate expansion that diversifies banks' macroeconomic risk. Not only do these banks experience clear gains in thei r financial performance, but society also benefits from the enhanced bank s afety that follows from this type of consolidation. (C) 1999 Elsevier Scien ce B.V. All rights reserved.