BANKING PERFORMANCE

Banking Performance

Banking Performance

Financial Development

A considerable body of econometric work, relying on identification arguments in the tradition of Granger, has sought to demonstrate that high measures of financial development at a given point in time are correlated with future growth in per capita income. A parallel line of research in finance and in industrial organization has tried to exploit determinants of external financial dependence in order to measure the differential impact of financial development on more and less financially-constrained sectors (Chien and Danw, 2001, p. 434).

While these studies provide suggestive evidence of a causal arrow running from finance to growth, the omitted variables and simultaneity problems associated with cross-country regressions, as well as the instability of the estimates across regression specifications limit the conclusions that can be drawn from them (Dabholkar, 1994, p. 241). As a result, empirical researchers have looked for plausibly exogenous variation in the characteristics of a financial regime in order to estimate the effect of a change in these characteristics on economic performance, variously defined.

Berger and Clarke (2005) represent a qualitative step forward in the empirical identification of a finance-growth nexus." The authors are the first to exploit the natural experiment created by the removal of within and across-state bank branching restrictions by U.S. states from the 1970s to the 1990s. Using a difference-in-differences approach, they and that the per capita growth rates of income and output increased in states after within-state branching deregulation. While these findings are consistent with a causal effect running from bank deregulation to growth, the authors do not identify the economic mechanism through which this effect might occur. Subsequent research, much of it by Strahan, has attempted to more carefully decompose these effects and place their causes on solid micro-foundations.

Bauer and Berger, 1998, p. 114) estimate the effect of within and across-state branch deregulation on new incorporations. They hypothesize that deregulation encourages business formation by reducing entry barriers, facilitating the take-over of struggling banks, and consolidating banking enterprises, all of which reduce the power of incumbent firms and lower the cost of credit. Using state level panel regressions, the authors and that across-state deregulation led to an increase of about 6 percent in the number of new incorporations per capita. The authors and that within-state branch deregulation have no effect on new incorporations. (Williams and Nguyen, 2005, p. 2119) estimate the effects of within and across-state branching deregulation on the total number of establishments per capita and the average number of employees per capita. The authors argue that deregulation leads to an increase in bank competition that affects the difference between the average number (and size) of establishments in financially constrained and unconstrained industries. They find that, after across-state deregulation, the average number of establishments in financially dependant sectors increases relative to that of less dependant sectors. Under the same test, the end that average establishment size decreases. The authors also show a differential shift in the establishment size distribution after across-state ...