Finance and Economics Discussion Series

Divisions of Research & Statistics and Monetary Affairs

Federal Reserve Board, Washington, D.C.

Branch Banking, Bank Competition, and Financial Stability

Mark Carlson and Kris James Mitchener

2005-20
NOTE: Staff working papers in the Finance and Economics Discussion Series (FEDS)
are preliminary materials circulated to stimulate discussion and critical comment. The
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concurrence by other members of the research staff or the Board of Governors.
References in publications to the Finance and Economics Discussion Series (other than
acknowledgement) should be cleared with the author(s) to protect the tentative character
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Branch Banking, Bank Competition, and

Financial Stability

Mark Carlson
and
Kris James Mitchener*
March 2005

JEL Codes: G21, N22, E44

It is often argued that branching stabilizes banking systems by facilitating diversification of bank
portfolios; however, previous empirical research on the Great Depression offers mixed support
for this view. Analyses using state-level data find that states allowing branch banking had lower
failure rates, while those examining individual banks find that branch banks were more likely to
fail. We argue that an alternative hypothesis can reconcile these seemingly disparate findings.
Using data on national banks from the 1920s and 1930s, we show that branch banking increases
competition and forces weak banks to exit the banking system. This consolidation strengthens the
system as a whole without necessarily strengthening the branch banks themselves. Our empirical
results suggest that the effects that branching had on competition were quantitatively more
important than geographical diversification for bank stability in the 1920s and 1930s.

Carlson: Federal Reserve Board; 20th and Constitution Ave, NW; Washington DC 20551;
[email protected]. Mitchener: Department of Economics, Santa Clara University and NBER; 500
El Camino Real; Santa Clara, CA 95053; [email protected]. This paper is forthcoming in the Journal of
Money, Credit and Banking. We thank Waiyi Poon for valuable research assistance and Joe Mason, Bill
Sundstrom, David Wheelock, Eugene White and conference and seminar participants at the Cliometric
Society Sessions of the ASSA Meetings, the Economic History Society Annual Meetings, NBER-DAE,
and Yale University for comments and suggestions. The views presented in this paper are solely those of
the authors and do not necessarily represent those of the Federal Reserve System or its staff.

Branch Banking, Bank Competition, and Financial Stability

One of the foundations of the theoretical literature on banking regulation is that
branch banking leads to more stable banking systems by enabling banks to better
diversify their assets and widen their depositor base (Gart 1994, Hubbard 1994). This
conventional wisdom has been used to argue that historical banking crises in the United
States, especially those of the 1930s, would have been less severe had the U.S. permitted
widespread branch banking (Friedman and Schwartz 1963, Calomiris 2000). The
empirical literature examining U.S. banking instability during the Great Depression,
however, has not universally confirmed this prediction. In fact, this research presents a
paradox. Studies using aggregate bank failure data from the Depression find that states
that allowed branch banking had lower failure rates than those that only allowed unit (or
single-office) banking (Wheelock 1995, Mitchener 2000a, 2004); although the result is
consistent with the diversification hypothesis, these studies do not test the precise channel
through which branching reduced failures. In contrast, studies using individual bank data
from the same period cast doubt on the common view that the stabilizing benefits of
branching operated via increased diversification opportunities. Calomiris and Mason
(2000) and Carlson (2004) find that banks with branches were more likely to fail than
unit banks, in part because they pursued strategies to reduce reserves rather than to
diversify their portfolios.
In this paper, we resolve this empirical puzzle by focusing on an additional
channel through which branch banking could affect financial stability: increased
competition. Our hypothesis is that, faced with heightened competition, banks that are
only marginally profitable are forced out of the banking system either through merger or
voluntary liquidation. As these weaker banks close, the overall stability of a states
banking system improves through consolidation. Thus, in the 1920s and 1930s, states

allowing branch banking experienced lower failure rates without the branch banks
themselves necessarily being the strongest banks.
Our hypothesis draws on the theoretical and empirical literature that examines the
removal of legal restrictions on competition, and then links it to the literature on bank
failures. Although policymakers often debate whether there are tradeoffs between
competition and stability, surprisingly little theoretical or empirical research has analyzed
these linkages in depth (Allen and Gale 2000).1 Consistent with the hypothesis posited
here, Berger and Hannan (1998) find that banks not exposed to competition are able to
exercise monopoly power and tend to be less efficient than banks subject to more
competition. When laws restricting competition are relaxed, bank profits generally
decline. This has been found both within the United States (Amel and Liang 1997) and
internationally (Claessens, Demirguc-Kunt, and Huizinga 1998, Levine 1996). Moreover,
the increase in competition resulting from the removal of branching restrictions has been
linked to the weeding out of weak banks (Jayaratne and Strahan 1998, Stiroh and Strahan
2003). We similarly argue that the expansion of branching in the 1920s facilitated an
increase in competition. To help clarify the theoretical debate over the effects of
competition on financial stability, we directly test how the growth of branching
influenced bank competition and how this in turn affected bank failures.
Since our hypothesis emphasizes changes in the competitive environment induced
by the onset of branch banking, it is necessary to test our model using data from a period
when branch banking was expanding in scope. Moreover, because we want to test how
branching influences the stability of banking systems, we also need to examine a period
when there were numerous failures. In this respect, the experience of the U.S. banking
system from 1920-30 is ideal since branching was expanding rapidly (Figure 1), and
1

On the one hand, there are many models of competition in the literature including models of bank
regulation in a competitive environment. On the other hand, there is a well-developed literature on bank
crisesBut there is little on the impact of competition on stability. (Allen and Gale, 2000, p.268).
Important exceptions are Koskela and Stenbacka (2000) and Matutes and Vives (1998); however, this
newer theoretical literature presents conflicting views on how competition affects financial stability.

because the 1920s were characterized by a large number of bank failures (Figure 2).2
Finally, examining this period allows us to compare our results to existing research on the
Great Depression and resolve the paradox that currently exists in the literature.
Our hypothesis has several testable propositions. First, the expansion of branching
should change the competitive environment. If branch banking removes weaker banks
from a banking system, then states permitting branch banking should experience higher
merger and voluntary liquidation rates and lower entry rates (by new banks) than states
prohibiting it. Second, over time more competition in states permitting branch banking
should result in lower profit levels. Finally, if the competitive shakeout induced by
branching stabilizes banking systems by removing weak banks from the system, then in
the long run failure rates should be lower in states where branch banking was expanding.
The link between branching, competition, and stability ought to be present even after
controlling for any benefits to stability coming from improved geographical
diversification of bank portfolios. We draw on the bifurcated nature of the dual banking
system that existed in the 1920s to design a statistical test to discriminate between the
effects of geographical diversification and competition due to branching.
Our empirical results support the predictions of the competition hypothesis. States
in which branching was more prevalent experienced more mergers and voluntary
liquidations during the 1920s. We also find that, although there was significant
consolidation in the banking sector in states allowing widespread branch banking, profits
were lower on average in these states, suggesting that branching led to increased
competition rather than monopoly power. To test whether branching reduced failures, we
first confirm that our data produce the usual state-level result that states allowing
branching or those with more branch offices had lower failure rates. We then construct

Chapman and Westerfield (1942) describe how the issue of branch banking gained national attention
during the 1920s, in part because it was spreading rapidly in states such as California and prompting federal
regulators to reconsider their longstanding prohibitions against it.

proxies for the portfolio diversification and competition channels of branching and test
whether their inclusion affects this result. Our econometric evidence shows that, at least
for national banks, the consolidation effects were quantitatively more important than
increased portfolio diversification opportunities for banking stability during this period.
These results suggest that, at the onset of the Great Depression, there were still many
weak banks in states prohibiting branch banking; the real shock of the 1930s caused
many of these to fail. However, in states that permitted branching, weak banks had been
pruned from the system, and failures were consequently lower at the systemwide level.
Thus we resolve the paradox in the existing literature by showing that the expansion of
branching improved stability at the statewide level through the competitive shakeout
process without necessarily improving individual banks ability to diversify away risk
during a large shock such as the Great Depression.
The paper proceeds as follows. Section 2 discusses the previous literature on
branching and financial stability. In section 3, we present our hypothesis for resolving the
existing puzzle in the literature. The next section tests the consolidation hypothesis and
some of its implications for bank competition and financial stability. Section 5 provides
concluding remarks.

Section 2. The Effects of Branch Banking on Financial Stability

An argument commonly articulated in the literature is that branch banking

stabilizes banking systems by reducing their vulnerability to local economic shocks:
branching enables banks to diversify their loans and deposits over a wider geographical
area or customer base.3 Restrictions on branching have been linked to the instability of
banking systems. Calomiris (2000) argues that bank failures were more prevalent in
3

Studies by Wacht (1968) and Lauch and Murphy (1970) find reduced variance in deposit flows for branch
banks. Cherin and Melcher (1988) find that branching has moderating effects on asset returns.

regions of the United States without branch banking as well as in countries lacking it.
Friedman and Schwartz (1963) suggest that the absence of branching in the U.S.
increased the severity of the banking panics during the Great Depression. Moreover, they
argue that the U.S. experience stands in contrast to Canada, which experienced banking
distress during the Depression but not widespread failures and a collapse of its banking
system.4 The notion that branch banking stabilizes banking systems by increasing
diversification opportunities is in fact an argument with old roots (Sprague 1903). In the
1920s, proponents of branch banking used this argument to encourage state legislatures to
adopt laws legalizing branch banking (Preston 1924, Southworth 1928).
Research examining the effects of branching at the aggregate level generally
supports the hypothesis that allowing branch banking increases systemic stability.
Wheelock (1995) studies the effects of different state banking regulations on bank
failures during the Depression and finds that states that allowed branch banking tended to
have lower failure rates. Mitchener (2000a, 2004) further examines state- and countylevel bank failure rates. Controlling for economic fundamentals and differences in both
state supervision and regulation, he also finds that states with legalized branching had
lower failure rates during the Depression. Comparing 25 different countries during the
Great Depression, Grossman (1994) finds that countries with large branching networks
were less likely to experience banking crises.5 Although the studies that rely on aggregate
data find a positive correlation between branch banking and financial stability, they do
not establish the precise channel through which branching improved stability.6 It is
4

Drummond (1991) and White (1983) make a similar argument. Kryzanowski and Roberts (1993),
however, find that nationwide branch banking did not prevent banks in Canada from becoming technically
insolvent.
5
Many of these studies also include some measure of bank concentration as an explanatory variable.
Although none of them provides an interaction term for branch banking and their measure of concentration,
it is possible that these two effects worked together to influence failure rates. In section 4, we relate our
consolidation hypothesis to the issue of banking concentration. Our emphasis, however, differs in that we
are testing whether changes in bank concentration are an outcome of branching laws and whether this in
turn affected bank profitability.
6
Wheelock (1995) attributes the positive correlation between restrictions on branch banking and failure
rates to limited diversification. Similarly Alston, Grove, and Wheelock (1994) also consider the impact of

therefore possible that the stability effects of branching are related to something besides
or in addition to diversification.
Studies using data on individual banks operating in the 1920s and 1930s paint a
different picture of the effects that branching has on the survivorship of individual banks,
and they cast doubt on the common view that the stabilizing benefits of branching
operated via increased diversification opportunities. Calomiris and Mason (2000) find
that, during the Depression, Federal Reserve members that were branch banks tended to
fail sooner than unit banks. Also, using data on individual state banks from this period,
Carlson (2004) examines three states where branch banking was relatively widespread
and finds that branched banks were more likely to fail than unit banks. Furthermore, he
rejects some potential reasons for this phenomenon, including insufficient diversification
and over-expansion on the part of banks. Instead, he finds that branch banks used
diversification to reduce their reserves rather than to lower the risk of their portfolios a
strategy that worked poorly during the global shock of the Great Depression.
Because it is difficult to reconcile the findings based on aggregate data (which
report a negative relationship between bank failures and statewide branch banking) with
the empirical results from studies using individual bank data (which are inconsistent with
the view that the source of stability was improved opportunities for diversification), this
article proposes an additional channel through which branching could have affected
stability: competition. Although they do not construct a formal model, Berger, Demsetz,
and Strahan (1998) argue that increased competition results in the purging of inefficient
banks from the banking system. Consistent with these ideas, Jayaratne and Strahan
(1998) and Stiroh and Strahan (2003) find that the branch-banking reform that began in
the United States in the 1980s resulted in the removal of weaker banks from the system.

branching legislation on bank failures, and emphasize that branching may reduce a banks susceptibility to
distress in a particular area; however, they do not find that the ratio of (non-home-office) branches to total
banks helps to explain the cross-state variation in failure rates during the 1920s.

Additionally, Koskela and Stenbacka (2000) suggest that greater competition decreases
interest rates and increases the likelihood that borrowers are able to remain solvent and
repay their loans. These studies suggest that the introduction of competition (in our case,
driven by the growth of branch banking) may improve the stability of banking systems.
On the other hand, Matutes and Vives (1998) argue that raising the level of competition
causes an increase in failures as lower profits resulting from competition encourage banks
to take on more risk.7 We are not aware of any previous studies that systematically test
the effects of competition on the stability of banking systems in particular.8

Section 3. Branch Banking and Competition in the 1920s

As figure 1 shows, the total number of branches operated in the United States
nearly tripled between 1920 and 1930, rising from 1,281 to 3,518. Many of these
branches were located in home-office cities and the number of these branches more than
doubled, increasing from 508 in 1920 to 1,131 in 1930 (Federal Reserve 1931, vol. 2).
We hypothesize that this expansion of branching networks increased the level of
competition in states that allowed branching to occur. As a result of this dynamic process,
banks that were only marginally profitable prior to the increase in competition would
become unprofitable due to the increase in competition. In turn, these banks would likely
merge with existing banks or voluntarily liquidate.9 Also, because it is less costly to open
a branch than a new bank, it is likely that fewer new banks would be able to find an
unexploited profitable niche and enter the market despite the fact that regulatory barriers
7

Demsetz and Strahan (1997) find that consolidation for bank holding companies (BHCs) enhanced
diversification following regulatory reform in 1994, but that larger BHCs then operated with lower capital
ratios and increased their risky lending.
8
Kaminsky and Schmukler (2002), however, compare broad financial systems of different countries
between the early 1970s and the late 1990s and find that, although reducing barriers to external competition
initially results in some turmoil, the long run effect of deregulation is increased stability.
9
Wheelock and Wilson (2000) find that, during the 1980s and 1990s, inefficiency reduced the likelihood
that a bank would be acquired. Carlson (2001), however, finds that during the early 1930s, acquired banks
were generally weaker than other banks.

to entry have been removed. With the exit of the weakest banks, the economic viability of
the average bank would increase and the rate of failure for banks within that state would
decline.10 The idea that the removal of barriers to competition would lead to a reduction
in the number of banks in the banking system is consistent with the model by
Economides, Hubbard, and Palia (1996).
Why should these competitive forces apply to the introduction of new branches
(as a result of legal changes) and not simply to the emergence of new unit banks in the
1920s? First, banks with branches were more cost-effective, since some jobs at different
branches could be consolidated and performed at the head office, thus reducing
employment costs (Federal Reserve 1931, vol. 2, p. 224.) Also, start-up costs were
lower, and in some states, regulators required less capital for new branches than for new
unit banks (Southworth 1928). Second, new branches that were set up in previously
restricted markets may have been more adept at realizing higher rates of return than
comparable new unit banks since branches could transfer deposits out of the local market
to regions where capital was in higher demand.11 The ability to obtain a cost advantage
through branching and realize higher rates of return made entry into existing local
markets easier for branch banks than new unit banks. Indeed, branch banking may have
been instrumental in bringing banking and banking competition to small towns. Calomiris
(2000, Chapter 1) makes a similar argument. In 1931 (the only year for which we have so
far been able to locate the distribution of branches by town size), nearly half of all
branches outside the home-office city were located in towns of less than 2,500 people
(Table 1). Figure 3 shows the locations of branches outside the home-office city.

10

By limiting the development of secondary markets, entry barriers such as restrictions on branching could
also prevent productive assets of weak banks from being digested or taken over by more efficient banks.
Without the existence of local competition to absorb bank assets, weak banks may have been forced to sell
productive assets in thin markets at fire sale prices or not at all, in turn increasing the likelihood of bank
failures within the system.
11
Morgan, Rime, and Strahan (2003) provide another channel through which diversified banks improve
stability shifting capital between regions to dampen economic shocks.

Laws that permitted statewide branching applied only to state-chartered banks

(which were regulated by state banking departments) while the data used below to test
this hypothesis are for national banks (which were regulated by the Office of the
Comptroller of the Currency). The logic of our hypothesis, however, still applies to
national banks since they would be subject to increased competition from the state banks
that were allowed to establish branches.12 Indeed, it may actually be better for testing the
competition hypothesis since the vast majority of national banks had no branches outside
the home-office city over our period and therefore enjoyed no effective geographical
diversification benefits. Excluding California, the country's nearly 8,000 nationally
chartered banks operated 18 branches outside the home-office city in 1925. In 1930 this
number was 27 (Federal Reserve Board of Governors 1943). Since our sample consists of
national banks, and only a few of them branch outside the headquarter city, any observed
or unobserved channels through which branching might affect both competition and
diversification are likely to be less of a problem. Finally, using a sample consisting of
national banks has the additional advantage that the regulatory environment and the
attitudes of regulators regarding bank mergers were more uniform than those concerning
state banks.
It has been shown by Calomiris and Mason (2000), among others, that less
profitable banks were more likely to fail during the Great Depression. A key component
of our hypothesis is that in the long run fewer of these banks would exist in states that
allowed branch banking, because the competitive pressures associated with the rise of
branch banking networks prior to the Depression would have forced weak banks to exit
from the banking system earlier in the decade. In states without the competitive pressures
of branch banking, more weak banks would still exist at the start of the Depression and

12

Additionally, state banks that converted into national banks were permitted to keep branches they had
established while they were state banks, enabling branch banks to become national banks through a legal
technicality.

these states would therefore have more banks that would be likely to fail during the
subsequent downturn. This interpretation is consistent with the findings in Mitchener
(2000a, 2004) and Wheelock (1995): states allowing branch banking had lower failure
rates than those prohibiting it. And it would also be true even though it was not
necessarily the case that branch banks were the survivors.
The alternative hypothesis, that a banking system with branching is more
diversified and therefore more stable than a banking system with only unit banks,
presupposes that the two systems are in equilibrium. The banking system of the United
States during the 1920s and 1930s, however, was in the process of transition. As noted
above, branching was expanding rapidly in some states and the total number of banks
was declining steadily from 29,715 in June 1920 to 23,855 by June 1930 (Federal
Reserve 1943). The growth in branch banking during the 1920s was facilitated by a
variety of legal and technological changes. In 1922, the Comptroller ruled that national
banks could, under the law, establish agencies, teller windows, or additional offices
within the city of the parent bank provided state banks were permitted to operate
branches in that state (Chapman and Westerfield, 1942, p.97), although these offices
could not issue loans and were not full-fledged branches. Possibly seeing these offices as
one step away from approval by the Comptroller of full-fledged branch banking for
national banks, state banks may have responded by increasing their branching networks
in order to compete with national banks. Relationships with correspondents were
weakened due to amendments of the Federal Reserve Act in 1917 (which put check
clearing in the hands of the Federal Reserve and required national banks to hold their
entire reserve requirement at the Federal Reserve), possibly inducing banks to pursue the
loss of deposits by buying banks and converting them to branches. Dramatic
improvements in road networks and improvements in telephone networks likely
improved the ability of managers to oversee branch networks. And rising urbanized
populations in the newer cities of Los Angeles and Detroit (both augmented by the rise of
10

the automobile, the former via the conversion of rails to roads and the latter which served
as the industrys manufacturing hub) also led to an increase in demand for banking
services. Both cities realized dramatic increases in the number of branch banking offices
in the 1920s. It is also likely that more banks were willing to develop branch networks
during the 1920s as they observed the success of branch banks in places such as
California.13 It is this structural change in the banking system wrought by these factors
that motivates our hypothesis. The key role played by this change in the banking system
suggests that our explanation is specific to the United States and may not apply to other
economies during the 1920s, such as Canada and the United Kingdom, which had
removed barriers to branching earlier and likely had completed the transition to a branch
banking system. That is, as branching expanded rapidly in some U.S. states in the 1920s
shakeout took place, initially causing exit and later reducing bank failures.
Because the growth in branching is attributable largely to shifts in the
relationships of banks with each other, technological progress, and population/economic
growth rather than changes in regulation specifically concerning branching, we use
changes in actual branching activity over time, and across states, rather than changes in
branching laws, to examine the effect of branching on a states banking system. We
argue that using actual branches provides a more complete picture of the effect that
branching might have on the competitive environment because the laws regulating the
establishment of branches varied substantially so that variables categorizing regulations
capture quite different situations.14
13

Californias branching network developed more quickly and extensively than any other state in the
decade, in part due the financial entrepreneur, A.P. Giannini, who created an extensive branching network
for the Bank of America. This spurred competing large banks in California to develop branching networks,
especially in Los Angeles, to fight Bank of Americas geographical expansion. Given the size of Bank of
Americas branching network in California, a change in its charter in 1927 (from state to national) could
have a large impact on the results in our paper, so later we test whether our results on stability are sensitive
to its inclusion.
14
For example: Massachusetts allowed trust companies to have one branch in the same city as the home
office; New York allowed unlimited branching in the city of the banks home office if the population of the
city exceeded 50,000; Louisiana allowed banks to have up to two branches, which could be located in the
parish of the home office; and California allowed statewide branching.

11

One notable change in the legal environment in the 1920s was the McFadden Act
of 1927, which allowed national banks to establish local branches in the city of their
home office if state law allowed branching. However, the Act imposed several
restrictions: national banks could open no new branches in cities with fewer than 25,000
people, only two branches in cities with populations between 50,000 and 100,000, and at
the discretion of the Office of the Comptroller of the Currency for cities of over 100,000
(Tippetts, 1929).
It should be noted that the expansion of branching (and consequently the
consolidation of the banking system) in the 1920s, which was driven by the establishment
of the Federal Reserve, technological changes, population growth, and economic growth,
is quite different from expansion of branching in the 1980s and 1990s, which appears to
have been more strongly influenced by changes in regulation (Stiroh and Strahan 2003,
Kroszner and Strahan 1998). Thus, focusing on a measure of branching activity is likely
to better capture the effect of branching on the banking system during the 1920s than the
shifts in regulation that have played a prominent role in dealing with the expansion of
branching in recent periods.
Our hypothesis, which emphasizes how the expansion of branch banking within a
state increases the competitive pressures on inefficient banks and can induce them to
merge or voluntarily liquidate, is consistent with recent research examining the effects of
bank deregulation (DeYoung, Hasan, and Kirchoff 1998, Berger, Demsetz, and Strahan
1999, Jayaratne and Strahan 1998, Stiroh and Strahan 2003). However, it stands in
contrast to one of the longstanding populist arguments lodged against branch banking.
Opponents of branch banking have often complained that it was a form of cartelization
that would result in consolidation of the industry and reduced competition, and that its
growth would reduce the viability of businesses in small communities by siphoning funds

12

to urbanized areas. Such sentiments were widely expressed in the first quarter of the 20th
century when branching was spreading rapidly.15
While the growth of branch banking may lead to consolidation, the effects on
competition are not as clear as opponents of branching suggest. In fact, the economic
theory or private-interest view of regulation argues that branching restrictions are used to
protect inefficient, local monopolies and restrict competition.16 The result of these
intrastate regulations was less than full-scale competition in local deposit and loan
markets. Chapman and Westerfield (1942, p.233) described the situation in the 1920s and
1930s:
Country bankers foresee danger to themselves in the possibility of
inroads into their areas of operation, should the larger institutions of the
cities be permitted to establish branches and compete with them in their
area on equal terms. They know that such a policy would result in a
reduction of interest rates in their towns and that their chances for the
profitable use of their funds might be somewhat diminished unless they
were prepared to go as far as their new rivals in serving customers
cheaply. The alleged apprehension of unit bankers as to the monopolistic
character of branch banking is, to say the least, selfish. What really
motivates them is their desire to preserve their local monopolies and
escape the competition of the more effective branch banks.

Our hypothesis is sympathetic to this view of regulatory impediments. It is also

analogous to one that has been made in the context of the global financial services
industry: just as foreign banks have brought necessary competition to inefficient domestic
markets (Levine 1996, Claessens, Demirguc-Kunt, and Huizinga 1998, Folkerts-Landau
and Lindgren 1998), branch banking can introduce greater competition to local markets,
improving the cost and delivery of services to customers and the safety of the banking
system by forcing inefficient banks to merge or go out of business.

15
16

See, for example, the discussion in Chapman and Westerfield (1942, p.10) for examples of this view.
See Kroszner and Strahan (1998, 2000), Mitchener (2000c), and Chapman and Westerfield (1942).

13

Section 4. Testing the Competition/Consolidation Hypothesis

This section tests several predictions of our hypothesis, using data on national
banks from the 1920s and the first two years of the Depression. First, we test whether the
number of mergers and voluntary liquidations was higher (and the number of entries by
new banks was lower) in states where there was more branch-banking activity. We then
test whether other factors related to competition and consolidation, including the number
of banks per capita and the profitability of different banks, are related to the extent of
branch banking in a state. Finally, we test whether competition, induced by branching, is
better at accounting for the variation in failure rates across states than the diversification
argument.

A. Mergers, Voluntary Liquidations, and Entry in Branch Banking States

Our first test examines industry consolidation whether there were more mergers
and voluntary liquidations for national banks in states that allowed branch banking and
whether there were also fewer new banks established in these states.17 Table 2
summarizes the rate of entry of new national banks and rates of exits of national banks
over the sample period of 1922-30 and groups by whether states permitted branch
banking. (Appendix Table 1 describes the sources for our data. Detailed information on
state branching laws is shown in Appendix Table 2.) As the last column of the table
shows, during the 1920s, states permitting some form of branching averaged somewhat
more mergers and voluntary liquidations than states that prohibited branching.

17

Wheelock (1993, p.815) suggests that these changes may have occurred in the 1920s, but does not
formally test this notion: Like most Midwestern states, Kansas was a unit banking state during the 1920s,
with over 1,000 small banks in operationHad branching restrictions been removed those counties might
have experienced greater consolidation, through either mergers or failures.

14

The tabular results for the effects of branching on consolidation are tested more
formally by regressing the number of exits and entries of national banks on a measure for
branching activity in the state. Using observations on each state i, we estimate the
following function:

(1) COMPETITIONi = f{1BRANCHi + 2BANKS/CAPi + 3AGRYi + 4DEPINSi +

5BANKSi},

where COMPETITION is specified as: (1) the number of mergers, (2) voluntary
liquidations, or (3) new branches for national banks.18 BRANCH is a measure of the
extent of branching in the state; BANKS/CAP is the number of state and national banks
per person, AGRY is the share of a states income from agriculture in 1920, BANKS is the
log number of national banks, and DEPINS is a dummy variable that equals one for states
with deposit insurance systems.
Since exits and entries take on discrete integer values and are bounded below by
zero, we analyze the number of exits and entries employing count data analysis, where
the data are pooled across states. Count data analysis assumes that the dependent variable
was generated through a Poisson process. Determining the effect of the independent
variables shown in equation (1) involves maximizing the log-likelihood function:
n

(2) ln L( ) = y i X i' exp X i' ln y i ! ,

i =1

where y is the dependent variable vector, X is the matrix of independent variables, is the
coefficient vector, and n is the number of observations.19 When analyzing counts, it is
18

It should be noted that entry of national banks is an imperfect measure of total entry, as one would also
expect that the entry of state banks would be affected by branching. Additionally, some banks may prefer to
enter the banking system as state banks in states allowing branching in order to establish branches, which
might lead to measurement error in the dependent variable.
19
The likelihood function is based on a Poisson process, although this can be modified; it involves taking
the factorial of the dependent variable (noting that the factorial of zero is one).

15

important to control for the size of the population from which the counts are produced. In
the Poisson or negative binomial distribution the rate of arrival is constant so that the
number of arrivals depends on the population size. Increasing the population by a given
percentage should increase the number of arrivals by the same percentage. To correct for
this, we include the log of the number of banks to account for the size of the at-risk
population of banks.20
Count data analysis has several advantages over other estimation strategies: it
treats observations with the value of zero as containing important information and takes
into account the granularity in the data (the fact that the number of exits and entries can
only take on whole numbers). Moreover, since entries and exits are truncated at zero
rather than censored at zero, using an alternative estimator such as Tobit would produce
biased estimates. When there is some evidence of overdispersion (the variance
significantly exceeds the mean) in our sample, we employ a negative binomial
distribution rather than the Poisson distribution. The coefficients can be interpreted as the
percentage change in the dependent variable (number of entries or exits) due to a one-unit
change in the independent variable.
Table 3 displays the results from cross-sectional regressions of the average
number of mergers, voluntary liquidations, and entries from 1923 to 1930 on the ratio of
branch offices for state and national banks to total branch and bank offices for state and
national banks in 1922 (BRANCH) and the other explanatory variables described in
equation 1. This specification enables us to examine whether cross-state variation is
sufficient to identify a relationship between branching and our measures of exit. By
holding our measure of branching at the 1922 level, we also alleviate concerns about the
endogeneity of this variable. The estimated coefficients support the hypothesis that
branch banking increases mergers and involuntary liquidations, leading to consolidation

20

For a detailed treatment of count data analysis see Cameron and Trivedi (1998).

16

in a states banking system. Testing these three coefficients jointly suggests that
branching results in a net reduction of the number of banks (the Chi-squared test statistic
has a p-value of 0.02). During the 1920s, states that had more extensive branch-banking
networks had more voluntary liquidations than states that allowed only unit banking
(Column 1). The point estimate suggests that an increase in the ratio branch offices to
total offices by 0.1 (about one standard deviation) resulted in roughly a 50 percent
increase in the number of voluntary liquidations. Column 2 also shows that states with
more branching activity had significantly more mergers than unit banking states during
the 1920s. The coefficient on the extent of branching suggests that its effect on the
number of mergers is similar to its effect on voluntary liquidations. These results are
consistent with White (1995), who describes the wave of bank mergers in the 1920s and
suggests that the increase in mergers and the ability to branch may have been related. In
contrast to the findings for voluntary liquidations and mergers, branching activity appears
to have had little impact on entry by new national banks (Column 3).
We next examine whether there is a sufficient expansion of branching activity in
the early 1920s to induce exit as our hypothesis suggests. As appendix table 2 indicates,
some states had passed branching laws before 1920. So even though the evidence from
the tables and figures suggests that branching was expanding rapidly during the decade,
in Table 4 we explicitly test whether the change in this branching ratio between 1922 and
1925 is associated with a greater average number of mergers and voluntary liquidations
between 1926 and 1930. The statistically significant coefficient on the change in the
branching ratio shown in Columns 1 and 2 suggests that the expansion of branching in
the early 1920s had a significant role in shaking out the banking system even though
some branching laws had been passed earlier.
The results from Tables 3 and 4 are also consistent with Wheelock (1993), who
showed that the overall percentage change in banks per capita in the 1920s was greatest

17

in states where branching expanded the most.21 However, the decomposition presented
here provides the further insight that branching encouraged banks to exit in a variety of
ways. That voluntary liquidations increased suggests that the decline in banks per capita
was not simply due to widespread purchases of banks by a few industry leaders. Rather
the trends exhibited in the regressions are consistent with an overall increase in
competition where branching was permitted.
We also estimated several alternative specifications in order to examine the
robustness of the results, including pooling the data and using the legal status of
branching in a state rather than the extent of branching. Table 5 tests whether the annual
number of mergers, voluntary liquidations, and entries from 1923-1930 are related to
level of branching activity lagged one year, where the data are pooled over the entire
sample period.22 The measure for the extent of branch banking in a state is lagged one
year to reduce the potential for endogeneity.23 We include year dummies in Table 5 (and
in other pooled specifications in the paper) to control for any time-specific effects. This
allows us to account for the changes in the macroeconomic environment and any residual
effects of the changes in the regulatory environment, such as the McFadden Act, not
captured by our degree of branching measures. The coefficients on the extent of
branching are again positive and statistically significant at conventional levels for
voluntary liquidations and mergers.
As a final robustness test regarding the exogeneity of our branching variable, in
place of the measure based on the extent of branching, we use dummy variables
indicating whether the state permitted branch banking. In a pooled regression, we find
that states permitting statewide branching had more mergers and consolidations (Table
21

And they are also consistent with Berger, Kashyap, and Scalise (1995), who show that the introduction of
nationwide banking beginning in the 1980s accelerated the reduction in the number and market share of
small bank organizations for the period of recent regulatory liberalization.
22
There is, however, substantial variation over time in our measure of the extent of branching. On average,
it changes 75 percent between 1922 and 1930 and by 30 percent between 1926 and 1930.
23
As we indicated in the previous section, since technological and legal changes were driving the increase
in branch banking in the 1920s, the lagged measure of the extent of branching seems plausibly exogenous.

18

6). We note, however, that the rest of analysis in this article focuses on our preferred
measure, the extent of branching activity in a particular state, because it allows us to
sidestep two definitional problems which complicate and potentially muddle the
interpretation of regression results based on the legal status of branching in a state: (1)
some states in the 1920s permitted limited branching, but what they permitted differed
markedly and (2) some states differed in terms of what was practiced by regulators (de
facto) and what was on the books (de jure). (See Appendix Table 2 for more details.)

B. Consolidation and Increased Competition versus Monopoly Power

Although the results presented in the previous section support the view that
branch-banking activity increases mergers and exits, it is unclear whether this
consolidation led to a more competitive banking system or to a monopolistic banking
system. For example, when banks are forbidden from establishing branches, it artificially
segments the market and enables unit banks to develop monopolies within particular
localities. The immediate impact of branching is that it introduces competition into these
geographically segmented markets. If banks that were previously insulated from the cool
winds of competition are acquired or forced out of the market as a result of this increased
competition, it is possible that the surviving banks in turn acquire monopoly power. This
was one of the concerns of those who lobbied against more permissive branching laws in
the 1920s: the end result of liberalization would simply be further concentration in the
banking industry. To investigate further how statewide branching affects the competitive
environment of a states banking system, we examine the relationship between branching
and two additional measures: banking sector concentration and bank profits.
We first test whether states allowing branch banking had more concentrated
banking sectors by regressing measures of bank concentration on the extent of branch
banking. The first measure of concentration is essentially an annual Herfindahl index of
19

national banks. The Federal Reserve published data on the number of banks in different
size categories with different levels of profitability for each state, for each of the years
1926-1930 (Federal Reserve Board of Governors 1931).24 The index is constructed as
follows: the number of banks is multiplied by the means of the size category; these
groups are aggregated to get the total value of loans and investments in the state. The
mean of each size category is divided by total state assets, squared, and multiplied by the
number of banks in each size category. These fractions are then added together to obtain
the index.25 Since the Federal Reserve data used to construct this index are only available
for 1926-30, the results for the Herfindahl index are presented for this period. The second
measure is a four-firm concentration ratio based on the deposits in the largest four
commercial banks (state or national) in each state for each year of our sample. This
measure allows us to examine a longer sample period (1923-1930) as well as a measure
based on the liabilities of banks. The third measure is simply the number of banks per
capita (both state and national commercial banks), also calculated for 1923-1930. The
sample consists of annual observations on each state.
Analysis using the ratio of branch offices to total bank offices of state and
national banks in 1922 as our measure of branching indicates that states with more
extensive branching had more concentrated banking sectors higher Herfindahl scores,
more deposits in the largest four banks, and fewer banks per capita.26 We find similar
24

The size categories, based on loans and investments, are: category 1 - under $150,000; category 2 $150,000-$250,000; category 3 - $250,000-$500,000; category 4 - $500,000-$750,000; category 5 $750,000-$1,000,000; category 6 - $1,000,000-$2,000,000; category 7 - $2,000,000-$5,000,000; category 8
- ($5,000,000-$10,000,000; category 9 - $10,000,000-$50,000,000; category 10 - $50,000,000 and over.
We employ the profit information below.
25
Mathematically, we can write this is as:

mean value of loans ( i )

i = size group
i ( mean value of loans ( i )) (banks in category ( i ) )

26

( banks in group(i ))

Our Herfindahl index is admittedly imperfect since it does not include state banks (comparable data do
not exist), and state banks were on average smaller. The average assets (loans and investments) for state
banks in 1926 was $1,272,183 whereas for national banks it was $2,403,295; state banks had 57% of total
assets in the commercial banking system in this year. Nevertheless, since our other two measures of

20

results if we pool the data and regress measures of bank concentration on the ratio of
branch offices to total offices lagged one year (Table 7). Thus, regardless of the measure,
states with more extensive branching tended to have more concentrated banking systems.
Next, we examine how branch banking affected bank profits. Since national banks
were all regulated at the national level by the Office of the Comptroller of Currency and
were largely restricted in their ability to have branches, differences in the level of
competition that they faced would be a significant factor in creating differences in profit
levels between states. Finding lower profits in states that witnessed a growth in branch
banking would indicate that the national banks faced greater competition from state banks
in these locations.27
To test how branching laws affect profitability, we use profit data on national
banks that are available from 1926-30 and that are decomposed by both size category
(based on loans and investments) and by state. Rather than listing the actual profit rates,
the Federal Reserve (1931) grouped the data into seven profit ranges, using the
percentage return to capital as the measure of profitability.28 The data set thus has up to
70 observations per state, per year because there are 7 profit ranges for each of the 10
bank size categories.29 Because the ranges are ordered but the distance between them is
not constant, an ordered logit is estimated using weights equal to the number of national
banks in each size category s, state i, and year t, earning a given level of profits. We
estimate the following function:

concentration also show that states with more branching activity had more concentrated banking systems,
we are confident that our result is robust.
27
Lower profitability may also result from higher merger costs; however, due to branching restrictions on
nationally-chartered banks, this interpretation is more likely to apply to state banks than the national banks
used in our sample. Alternatively, national banks may have higher profits if branching leads to so much
industry consolidation that surviving banks are able to generate oligopoly profits. Higher profits may also
result if competition removes a sufficient number of inefficient national banks from the banking system.
28
These ranges are: deficit of 6% or more, deficit of 5.9% to 0 %, profit of less than 3%, profit of 3% to
5.9%, profit of 6% to 8.9%, profit of 9% to 11.9%, and profit of 12% and over.
29
There may be less than 70 observations for a state within a year if none of the banks in a particular size
category had profits within a particular profit range.

21

(3) PROFIT RANGEist = f{1BRANCHit-1 + 2STBANKSHAREit + 3DEPINSi +sSIZEs},

with observations weighted by the number of national banks in category ist.

STBANKSHARE is the share of commercial banks that are state chartered, DEPINS is a
dummy variable indicating whether a state had a deposit insurance system, and YEAR and
SIZE are time and size dummies, respectively. BRANCH is one of our two measures of
the extent of branching. In Table 8, BRANCH is the ratio of branch offices to total bank
offices of state and national banks in 1922 and in Table 9 BRANCH is the change in this
branching ratio between 1922 and 1925.
Tables 8 and 9 show that banks located in states with relatively more branching
activity had declining profitability over the period 1926-30, suggesting that there was
more competition in branch banking states.30 A higher initial level of branching or a more
significant expansion of branching in the early 1920s is found to have reduced
profitability as competitive forces unleashed by branching likely eliminated the
geographic monopolies enjoyed by unit banks and state banking systems moved toward a
new equilibrium. This is shown in Tables 8 and 9 by the shift in the coefficient on
branching from positive in the beginning of the sample period to negative by the end of
the period. Depending on which measure of BRANCH we use, the effect on profits from
branching turns negative in 1927 or 1928 and is significantly so starting in 1929. Using
the 1929 regression, a one-standard-deviation increase in the ratio of branch offices to
total offices or a one-standard-deviation increase in the growth of branching reduces the
probability of being in a higher profit category by 4 to 7 percent.
As a robustness check, we also considered a pooled regression specification
(which includes year dummies) over the sample period 1926-30, and find that states with

30

Calomiris and Ramirez (2002) also find that states that prohibited branching had higher profit levels.
They attribute this partly to the ability of unit banks to exert monopoly power and partly to the higher level
of risk that being an undiversified unit bank would entail.

22

relatively more branching activity had lower profits (Table 10). We use our same
measure of the extent of branch banking, but lag it one year. A one-standard-deviation
increase in the ratio of branch offices to total bank offices reduces the probability of
being in a higher profit category by about 3 percent. While this overall effect is not
terribly large, it masks different effects for different size banks. A one-standard-deviation
increase in the ratio of branch offices to total bank offices for small banks, which seem to
have been most affected by branching activity, reduced the probability of being in a
higher category by 20 percent. For the largest banks, the probability of being in a higher
category was reduced 10 percent. There seems to have been little effect on the
profitability of mid-size banks. The other coefficients are as expected. Larger banks were
more profitable, and the years 1929 and 1930 were particularly bad years for bank
profitability.
The shift from positive profits to negative profits in later years suggest that the
banking system was being transformed by the consolidation that branch banking brought
with it. Our findings are consistent with studies of recent banking deregulation such as
Amel and Liang (1997) and Berger, Kashyap, and Scalise (1995), who view the removal
of geographic restrictions as likely reducing the exercise of market power (by unleashing
more actual or potential customers into local markets) and improving allocative
efficiency (by enabling resources to flow more easily toward activities that yielded higher
returns and more efficient producers).

C. Branch Banking and Financial Stability

We now examine whether branch banking is responsible for lower national bank
failures in the 1920s and 1930s. We consider two ways that branching may have reduced
the incidence of failures: (1) by improving diversification opportunities through
geographical expansion and (2) by weeding out weak banks via the process of
23

competition. We use the same data from the Federal Reserve that was used to examine
bank profitability. Since the dependent variable we use is the number of failures, we
estimate the regressions using count data analysis.
We first verify that we are able to replicate the state-level results of Wheelock
(1995) and Mitchener (2000a, 2004). We aggregate the size categories into state level
observations and regress the number of failures of national banks in a state on variables
indicating whether the state allowed branching, year dummies, and (log) number of banks
in the state.31 (We also include a specification that uses the extent of branching as an
independent variable.) The results shown in Table 11 match the previous literature and
indicate that states permitting branch banking had fewer bank failures from 1927-1930,
the period where the profits regressions suggest that competition was most important.
We now explore whether the lower number of failures from widespread branch
banking was due to increased competition, diversification, or both. To conduct this test,
we develop proxies for the competition and diversification effects of branch banking by
taking advantage of the bifurcated nature of the U.S. banking system. To proxy how
branch banking could lower failures by increasing consolidation, we compute the ratio of
the branches of state banks to total bank offices in the state (COMPETITION). In states
where this ratio is larger, national banks will be competing with more bank offices that
are the direct result of statewide branching. And since this variable is based on the
expansion of state-chartered branching, it excludes any benefits to national banks from
greater diversification opportunities. To proxy for the diversification effects of branching
on national banks, we compute both the percentage of national banks with branches
(DIVERSIFY1) as well as ratio of national bank branches to national banks
(DIVERSIFY2). In states where DIVERSIFY1 is larger, more national banks will have
31

We use a pooled sample. Following Bertrand, Duflo, and Mullainathan (2002), we adjust the standard
errors for the fact that there are multiple observations for each state by clustering at the state level. In states
where the de jure situation differed from the de facto situation (such as West Virginia, where the laws
allowed branching but the state banking commissioner refused all applications for establishing branches) or
where states do not have a law, the de facto situation is used.

24

greater opportunities to diversify their portfolios across branch offices in the state.
DIVERSIFY2 captures the extent to which national banks can diversify. Mathematically,
these ratios are:
Branches of state banks

(4) COMPETITION =

Bank and branch offices of state and national banks

Number of national banks with branches
(5) DIVERSIFY1 =

Number of national banks

Branches of national banks

(6) DIVERSIFY2 =

Number of national banks

Including these measures side-by-side in regressions will allow us to identify which

channel was quantitatively more important in lowering national bank failures. We use the
1922 values for all three of theses ratios in order to ensure that they are plausibly
exogenous.
For state i, year t, and size category s, we estimate the total national bank failures
(FAILURE) by the following function:

(7) FAILUREist = f{1COMPETITIONit-1 + 2DIVERSIFYit-1 + 4DEPINSi + 5BANKSit

+ 4BUSFAILit-1 + 5FARMFAIit-1 + 6HERFt + iYEARt
+ sSIZEs},

where COMPETITION and DIVERSIFY are lagged, and DIVERSIFY is one of the two
measures of diversification defined above (DIVERSIFY1 or DIVERSIFY2). Since our
dependent variable is disaggregated by size, we are also able to include bank size
indicators (SIZE) as additional conditioning variables a factor that has been associated
25

with the probability of failure in previous studies (Calomiris and Mason 2000, Carlson
2004, White 1984).32 Figure 4 shows the distribution of banks and failures by bank size
category. To control for differences in real shocks across states, we include a measure of
lagged business failures (BUSFAIL) and compute agricultural distress as the lagged farm
failure rate (FARMFAIL). We control for additional state level factors: the (log) number
of national banks (BANKS); the Herfindahl index (HERF), described above; and whether
a state had a deposit insurance system (DEPINS).33 All 48 states are used and we include
year dummies to capture any time specific influences. Since each size category provides a
unique observation, we have 10 observations for each state for each year.
Since our profit regressions suggest that the initial shakeout and consolidation
process had taken place by the end of 1926, we pool our data over the period 1927-30,
and estimate equation (7) using count data analysis with a negative binomial
distribution.34 However, because we observe each state multiple times, we cluster our
standard errors as suggested by Bertrand, Duflo, and Mullainathan (2004).35
The relative effects of competition and diversification in producing lower failures
rates in states allowing branch banking are shown in Tables 12.36 The negative and
statistically significant estimated coefficient on our ratio that proxies for competition
supports the hypothesis that branch banking improves financial stability by weeding out
32

Larger banks may be more stable because of their greater ability to spread risks and coordinate
emergency assistance with other banks and their reduced propensity to spread contagion when the banking
sector is subjected to external shocks.
33
We include the deposit insurance indicator variable for two reasons. First, the presence of deposit
insurance in eight states has been linked to higher failure rates in the 1920s in these states (Wheelock 1992,
Wheelock and Wilson 1995, and Calomiris 1990). Moreover, increased competition can potentially
exacerbate the moral hazard problem associated with deposit insurance (Keeley 1990, Demzetz, Saidenberg
and Strahan 1996, Hellman and Stiglitz 2000, Dick 2002, and Bergstresser 2002). There is however, little
overlap between states that allowed branching and state that had a deposit insurance program.
34
A few states have less than 10 observations per year because no banks exist in some size categories.
35
As an alternative, we estimated a panel regression with state-level fixed effects and found similar effects.
36
Branching and bank size are generally correlated, and both allow a bank to diversify: size allows the
bank to make more total loans and branching permits the bank to make loans in different locations. In this
analysis, we focus on the geographic diversification allowed by branching and control for bank size by
including dummies for the size group of the bank. Another way of controlling for bank size is by repeating
this regression using only banks of a particular size group. These regressions yield similar results to those
shown here.

26

inefficient banks through increased competition and consolidation. Increased competition

stemming from branching significantly reduces failures. An increase in the competition
ratio of 0.1 (about one standard deviation) results in a 35 percent decrease in the number
of failures in a state. On the other hand, we find no evidence that either of our measures
for diversification resulting from branching is associated with fewer national bank
failures, where column 1 of Table 12 uses DIVERSIFY1 (the percent of national banks
with branches) and column 2 uses DIVERSIFY2 (average branches per national bank).
These results do not appear to be sensitive to choosing a different measure of the
extent of branching. As a sensitivity test, we use one-year lagged values of
COMPETITION,

DIVERSIFY1,

and

DIVERSIFY2.

Here

again,

the

sign

on

COMPETITION is negative and statistically significant. We find no evidence that either

of our measures for diversification resulting from branching is associated with fewer
national bank failures; indeed, the only statistically significant coefficient for either of the
diversification measures has the wrong expected sign. It should be noted however, that
these results do not provide any indication about the importance of diversification
through branching at state banks, where the bulk of the banking systems branches were
located.
The signs on the other explanatory variables in the failure regressions are largely
as expected. Bank failures were significantly higher in 1929 and 1930 (as a result of the
Depression). An increase in the banks at risk boosts failures. And consistent with the
research using individual bank data from this period, larger banks were less likely to fail
and smaller banks were more likely to fail.37 After controlling for other factors, farm
failure rates and deposit insurance were statistically insignificant.
37

We also tested an alternative hypothesis that branching decreases failures by facilitating a substitute to
failure, namely merging with another bank. (We thank Joe Mason for suggesting this idea.) According to
this view, branching reduces failures because it facilitates mergers by expanding the pool of possible
merger partners from banks within the city to all state banks within the state. We test this hypothesis by
constructing an index of the ease with which banks might merge. This index is the number of mergers
divided by the total number of bank exits (mergers, failures, and voluntary liquidations). However, we do
not find a significant relationship between this measure and the number of failures.

27

California had by far the most branches, about 660 in 1926. New York had the
second most with approximately 489 branches. As a test of the robustness of our results,
we eliminate California from the sample and repeat the estimation. As Table 14 shows,
the results are similar in terms of the effects that the two channels had on failures.
Interestingly, both the size of effect of competition and its significance are greater when
California is excluded from the sample. The same size increase in the ratio of branches of
state banks to total bank offices (again about one-tenth of a standard deviation) now
reduces the number of failures by about 60 percent. The reported coefficients on the other
variables are quite similar to those shown in the previous table.
To check the sensitivity of our results to the choice of stability measures, we also
considered an alternative dependent variable the share of assets at national banks
affected by failures. The results (not reported) are similar to what is displayed in Tables
10 and 11. States with more extensive state branching had a smaller share of assets
located in failing national banks.

Section 5. Conclusion

This paper revises our understanding of the role that branching played in
improving the stability of banking systems during the 1920s and 1930s. Diversification
was not the primary channel through which branch banking made state banking systems
more resistant to shocks. Instead, the expansion of statewide branch banking induced
greater competition in states where it was permitted and improved the stability of their
banking systems by removing weak and inefficient banks. Our results are largely
consistent with recent literature that has examined the effects of deregulation in other
settings. Like Amel and Liang (1997), who examine banks and branching in the 1980s,
and Classens, Demirguc-Kunt, and Huizinga (1998), who look at banks expanding
internationally, we find that the growth of branch banking in the 1920s is associated with
28

lower profits in the latter part of the decade. Our results put the well-documented
response of unit bankers (particularly those located in rural areas) to the growth of branch
banking in the 1920s in proper perspective. Because the growth of statewide branching
was eroding the monopoly profits that unit bankers had previously enjoyed, they
responded (as predicted by the economic theory of regulation) by lobbying state and
federal governments to legally limit it from spreading. As a result of their influence,
many states consequently continued to prohibit branching during the 1920s.
Similar to what Jayaratne and Strahan (1998) and Stiroh and Strahan (2003) find
for the branching deregulation of the 1980s, we find that this more competitive
atmosphere is associated with a higher exit rate. This confirms what some economic
historians have suggested, but not shown. As White (1985, p.291) contends, The number
of small banks in rural areas needed to be reduced, and the mergers assisted the weaker
institutions with less pain than the massive failures that followed. Unfortunately, this
development was stifled by regulations in most states that forbade branch banking. The
market upheaval and increase in competition resulting from the removal of legal barriers
to entry, however, resulted in longer-run stability, with fewer failures in states where
branching had spread. Our results also confirm the hypothesis of Berger, Demsetz, and
Strahan (1999), that competition prompts weaker banks to leave the banking system, and
parallels the findings of Kaminsky and Schmuckler (2002), that international financial
liberalization causes some initial turbulence in financial markets but over time results in
reduced volatility.

29

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34

Figure 1
Branches of U.S. Banks
4000

Number of Branches

3500

In Home City
Ouside Home City

3000
2500
2000
1500
1000
500
0
1900

1905

1910

1915

1920

1925

1930

Year

Sources and notes: Federal Reserve Board (1931), vol. 2. Home city indicates branches located in the same
city as the banks headquarters.

Figure 2
Bank Failures in the United States

Number of Failures

1600
1400

All Banks

1200

National Banks

1000
800
600
400
200
0
1922

1923

1924

1925

1926
Year

Source: Federal Reserve Board (1943).

35

1927

1928

1929

1930

Figure 3 Branches of National and State Banks outside the City of the Home Office (December 31, 1931)

Source: Federal Reserve Board (1931, Vol. 2, p.17).

Note: In California there are numerous branches in the metropolitan areas centering around San Francisco
and Los Angeles, but technically outside their city limits. On the map the dots extend considerably beyond
the territory in which the branches are actually located around these cities.

36

Figure 4 Annual Average Number of National Banks and Bank Failures by Size Category
1800
Banks
1600

Failures

1400
1200
1000
800
600
400
200
0
1

10

Size Categories

Sources and Notes: Comptroller of the Currency (various years) and Federal Reserve Board (1931). Annual
averages are constructed over the period 1926-1930. Size categories are: category 1 - under $150,000;
category 2 - $150,000-$250,000; category 3 - $250,000-$500,000; category 4 - $500,000-$750,000;
category 5 - $750,000-$1,000,000; category 6 - $1,000,000-$2,000,000; category 7 - $2,000,000$5,000,000; category 8 - ($5,000,000-$10,000,000; category 9 - $10,000,000-$50,000,000; category 10 $50,000,000 and over.

37

Table 1 The Distribution of Bank Branches by Town Population (1931)

Town Population
Under 500
500-1,000
1,000-2,500
2,500-5,000
5,000-10,000
10,000-25,000
25,000-50,000
50,000-100,000
100,000+

Branches Outside Branches Inside HomeAll Branches

Home-Office City
Office City
Percent of
Percent of
Percent of
Number
Number
Number
Total
Total
Total
189
16.32
2
0.09
191
5.73
173
14.94
0
0.00
173
5.19
207
17.88
7
0.32
214
6.42
134
11.57
7
0.32
141
4.23
107
9.24
9
0.41
116
3.48
91
7.86
27
1.24
118
3.54
46
3.97
63
2.90
109
3.27
60
5.18
132
6.07
192
5.76
151
13.04
1929
88.65
2080
62.39

Total
1158
100
Source: Federal Reserve Board (1931), vol. 2.

2176

100

3334

100

Table 2 Summary Statistics for National Banks

Number of states
Average number of
banks
Unit
Banking Average voluntary
liquidation rate
Average mergers rate
Average entry rate
Number of states

1922 1923 1924 1925 1926 1927 1928 1929 1930 Average
30
30
28
28
28
29
30
29
28
29
175.8 173.2 165.8 165.6 155.4 147.6 143.3 142.3 138.2

157.9

1.4
1.2
2.4

1.7
2.0
1.8

1.8
1.8
1.5

2.4
2.2
2.3

1.7
1.9
1.9

2.0
2.3
1.2

2.2
2.2
1.3

3.5
3.5
2.3

4.7
4.0
2.2

2.2
2.1
1.9

18

18

20

20

20

19

18

19

20

19

Allows Average number of

168.6 169.1 171.6 172.9 167.3 172.8 176.7 165.9 157.5 169.1
Some Form banks
of
Average voluntary
Branching liquidation rate
1.8
1.5
2.6
1.6
3.4
2.0
2.8
4.0
4.9
2.6
Average mergers rate
1.4
1.6
2.6
1.2
2.8
2.2
3.1
4.4
3.8
2.4
Average entry rate
2.6
1.9
2.5
2.5
1.8
1.2
1.5
2.0
0.8
1.9
Sources and Notes: Rates are computed using data from the Annual Report of the Comptroller of the
Currency (1922-1930). Rates are expressed as percentages of existing banks. Within-category rates are
unweighted averages of state rates. The last column shows the average of the yearly observations over the
entire sample period, 1922-1930.

38

Table 3 Effect of Initial Level of Branching on Voluntary Liquidations, Mergers, and Entry
Dependent variable: The average count of voluntary liquidations, mergers, and entries of national
banks in a state for the period 1923-1930.
Average Voluntary
Average Mergers
Liquidations
Intercept
Ratio of Branches to Total
Bank Offices (1922 Value)
Banks Per Capita
Share of State Income from
Agriculture
Log Number of Banks
Deposit Insurance
Dispersion

(
(
(
(
(
(
(

-6.80***
1.17)
5.02***
1.56)
0.58**
0.23)
0.03**
0.02)
1.26***
0.18)
-0.46
0.39)
0.12
0.08)

(
(
(
(
(
(
(

-6.77***
1.16)
4.75***
1.54)
1.26***
0.18)
0.04**
0.02)
1.26***
0.18)
-0.49
0.38)
0.10
0.07)

Average New
Banks
(
(
(
(
(
(
(

-4.63***
1.09)
1.47
1.66)
1.15***
0.17)
0.00
0.02)
1.15***
0.17)
0.83**
0.40)
0.12
0.10)

Observations
48
48
48
Log-Likelihood
-96.9
-91.1
-96.1
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Standard errors are in parentheses. Data on voluntary liquidations, mergers, and entries of
national banks are from the Annual Report of the Comptroller of the Currency (1923-1930). Population
and income shares are from 1920 Census report. The log of the number of banks is the average number of
national banks for 1923-1930. Branch offices and total bank offices include both state and national banks.

39

Table 4 Effect of an Increase in Branching on Voluntary Liquidations, Mergers, and Entry

Dependent variable: The average count of voluntary liquidations, mergers, and entries of national
banks in a state for the period 1926-1930.
Average Voluntary
Average Mergers
Liquidations
(1926-1930)
(1926-1930)

Intercept
Change in the Ratio of Branches to
Total Bank Offices (1922-1925)
Banks Per Capita
Share of State Income from
Agriculture
Log Number of Banks
Deposit Insurance
Dispersion

Count
-6.18***
( 0.82)
6.62***
( 1.03)
0.32
( 0.23)
0.04***
( 0.01)
1.21***
( 0.13)
-0.50*
( 0.26)
N.A.^

Count
-6.03***
( 0.82)
6.66***
( 1.03)
1.19***
( 0.13)
0.04***
( 0.01)
1.19***
( 0.13)
-0.49*
( 0.26)
N.A. ^

Average New
Banks
(1926-1930)
Count
-4.79***
( 1.28)
3.15
( 2.48)
1.13***
( 0.23)
-0.01
( 0.02)
1.13***
( 0.23)
1.39***
( 0.50)
0.26
( 0.17)

Observations
48
48
48
Log-Likelihood
-165.9
-150.3
-48.4
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. The symbol (^) indicates that we reject overdispersion in the data and estimate the regression
using a Poisson distribution. Standard errors are in parentheses. Data on voluntary liquidations, mergers,
and entries of national banks are from the Annual Report of the Comptroller of the Currency (1926-1930).
Population and income shares are from 1920 U.S. Census. Banks per capita is the 1920 value. The log of
the number of banks is the average number of national banks for 1926-1930. Branch offices and total bank
offices include both state and national banks.

40

Table 5 Effect of Branching on Voluntary Liquidations, Mergers, and Entry using a Pooled Sample
Dependent variable: The count of voluntary liquidations, mergers, and entries of national
banks in a state per year.
Voluntary
Mergers
New Banks
Liquidations
(1923-1930)
(1923-1930)
(1923-1930)

Intercept
Ratio of Branches to Total
Bank Offices (lagged)
Banks Per Capita
Share of State Income from
Agriculture
Log Number of Banks
Deposit Insurance
1924
1925
1926
1927
1928
1929
1930
Dispersion

(
(
(
(
(
(
(
(
(
(
(
(
(
(

-5.21 ***
0.39 )
2.41 ***
0.39 )
0.66 *
0.36 )
0.04 ***
0.01 )
1.01 ***
0.06 )
-0.72 ***
0.18 )
0.20
0.19 )
-0.02
0.20 )
0.21
0.19 )
0.25
0.19 )
0.19
0.19 )
0.59 ***
0.19 )
0.88 ***
0.19 )
0.39
0.06 )

(
(
(
(
(
(
(
(
(
(
(
(
(
(

-5.14 ***
0.39 )
2.34 ***
0.39 )
0.67 *
0.35 )
0.04 ***
0.01 )
1.02 ***
0.06 )
-0.69 ***
0.18 )
0.01
0.19 )
-0.25
0.20 )
0.05
0.19 )
0.18
0.19 )
0.04
0.19 )
0.52 ***
0.18 )
0.55 ***
0.18 )
0.39
0.06 )

(
(
(
(
(
(
(
(
(
(
(
(
(
(

-4.08 ***
0.44 )
0.51
0.45 )
-0.99 ***
0.07 )
0.00
0.01 )
1.07 ***
0.07 )
0.81 ***
0.20 )
-0.21
0.21 )
0.13
0.20 )
-0.08
0.21 )
-0.38 *
0.21 )
-0.38 *
0.22 )
-0.02
0.21 )
-0.27
0.22 )
0.54
0.08 )

Observations
384
384
384
Log-Likelihood
-1031
-964
-1086
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Standard errors are in parentheses. Data on voluntary liquidations, mergers, and entries of
national banks are from the Annual Report of the Comptroller of the Currency (1922-1930). Population
and income shares are from 1920 Census report. The first year in each sample period is the omitted year
from the regression. Branch offices and total bank offices include both state and national banks.

41

Table 6 Effect of State Branching Law on Voluntary Liquidations, Mergers, and Entry using a Pooled
Sample
Dependent variable: The count of voluntary liquidations, mergers, and entries of national
banks in a state per year.
Voluntary
Mergers
New Banks
Liquidations
(1922-1930)
(1922-1930)
(1922-1930)

Intercept
Law allows branching
Banks Per Capita
Share of State Income from
Agriculture
Log Number of Banks
Deposit Insurance
1923
1924
1925
1926
1927
1928
1929
1930
Dispersion

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-4.64***
0.40)
0.24*
0.12)
-0.12
0.37)
0.03***
0.01)
0.96***
0.06)
-0.45**
0.19)
0.19
0.22)
0.38*
0.22)
0.18
0.22)
0.40*
0.22)
0.46**
0.21)
0.43**
0.22)
0.81***
0.21)
1.07***
0.21)
0.56
0.07)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-4.79***
0.41)
0.21*
0.12)
-0.04
0.37)
0.03***
0.01)
0.99***
0.06)
-0.45**
0.19)
0.31
0.21)
0.34
0.21)
0.09
0.22)
0.38*
0.21)
0.55***
0.21)
0.43**
0.22)
0.89***
0.21)
0.89***
0.21)
0.55
0.07)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-3.87***
0.43)
-0.10
0.13)
-1.61***
0.07)
0.00
0.01)
1.08***
0.07)
0.96***
0.19)
-0.06
0.21)
-0.28
0.22)
0.05
0.21)
-0.15
0.22)
-0.45**
0.22)
-0.45**
0.22)
-0.09
0.22)
-0.36
0.22)
0.60
0.08)

Observations
480
480
480
Log-Likelihood
-1065
-968
-1603
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Standard errors are in parentheses. Data on voluntary liquidations, mergers, and entries of
national banks are from the Annual Report of the Comptroller of the Currency (1922-1930). Data on
branching laws are from the Federal Reserve Board (1931) and population is from the 1920 Census. The
first year in each sample period is the omitted year from the regression.

42

Table 7 Branching and Industry Concentration

Dependent variable: concentration indexes
Herfindahl Index

4-Firm Index

Banks Per Capita

Coefficient
Estimate
1084 ***

S.E.
( 101 )

Coefficient
Estimate
0.21 ***

S.E.
( 0.02 )

Coefficient
Estimate
38.61 ***

S.E.
( 2.44 )

1088 ***

( 301 )

0.44 ***

( 0.06 )

-69.65 ***

( 6.34 )

1924

0.01

( 0.03 )

-2.18

( 3.39 )

1925

0.02

( 0.03 )

-3.07

( 3.39 )

1926

0.02

( 0.03 )

-4.20

( 3.40 )

Intercept
Ratio of Branches to Total
Bank Offices (lagged)

1927

60

139 )

0.03

( 0.03 )

-5.31

( 3.40 )

1928

50

139 )

0.04

( 0.03 )

-6.27 *

( 3.40 )

1929

101

139 )

0.04

( 0.03 )

-6.97 **

( 3.40 )

1930

150

139 )

0.05

( 0.03 )

-7.98 **

( 3.40 )

Observations
239
383
383
Adjusted R-square
0.04
0.14
0.25
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using a pooled sample. Data on the number of banks, size distribution, and number
of branches are from the Federal Reserve Board (1931). Four-firm concentration index derived from Polks
Bank Directory (various years) and the Comptroller of the Currency (various years). Population is from the
1920 Census. The dummy for the first year in each time period is the omitted year. Banks per capita and the
four-firm index include state and national banks, whereas the Herfindahl index consists only of national
banks.

43

Table 8 Effect of Initial Level of Branching on Profitability by Year, 1926 - 1930

Dependent variable: Profit level of banks in different size categories in a state for each year.
1926
1927
1928
1929
Ratio of Banks to Total
Bank Offices (1922 value)
(
Ratio of State Banks to Total
Banks
(
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
Intercept 7
Intercept 6
Intercept 5
Intercept 4
Intercept 3
Intercept 2

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

1.2***
0.2)
-1.7***
0.1)
-0.4***
0.1)
-1.6***
0.1)
-1.1***
0.1)
-0.6***
0.1)
-0.2***
0.1)
-0.1*
0.1)
0.2***
0.1)
0.2
0.1)
0.2*
0.1)
0.2
0.3)
-0.3***
0.1)
0.7***
0.1)
1.8***
0.1)
2.7***
0.1)
3.4***
0.1)
4.4***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.6**
0.2)
-2.5***
0.2)
-0.1**
0.1)
-1.5***
0.1)
-0.9***
0.1)
-0.6***
0.1)
-0.2***
0.1)
-0.1
0.1)
0.1
0.1)
0.2*
0.1)
0.2
0.1)
0.0
0.3)
0.2*
0.1)
1.2***
0.1)
2.3***
0.1)
3.1***
0.1)
3.8***
0.1)
4.8***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.1
0.2)
-1.9***
0.2)
0.3***
0.1)
-1.6***
0.1)
-0.9***
0.1)
-0.5***
0.1)
-0.1**
0.1)
-0.1
0.1)
0.2***
0.1)
0.3**
0.1)
0.3**
0.1)
0.7**
0.3)
-0.2**
0.1)
0.8***
0.1)
1.9***
0.1)
2.8***
0.1)
3.5***
0.1)
4.4***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-0.4*
0.2)
-0.8***
0.2)
0.2***
0.1)
-1.1***
0.1)
-0.7***
0.1)
-0.3***
0.1)
-0.1
0.1)
-0.2***
0.1)
0.3***
0.1)
0.3***
0.1)
0.6***
0.1)
1.1***
0.3)
-1.1***
0.1)
-0.1
0.1)
0.9***
0.1)
1.8***
0.1)
2.5***
0.1)
3.6***
0.1)

1930

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-1.1***
0.2)
0.5***
0.2)
0.3**
0.1)
-0.8***
0.1)
-0.5***
0.1)
-0.1**
0.1)
0.0
0.1)
0.0
0.1)
0.2**
0.1)
0.4***
0.1)
0.6***
0.1)
1.0***
0.3)
-2.8***
0.1)
-1.9***
0.1)
-0.9***
0.1)
0.2
0.1)
0.9***
0.1)
2.1***
0.1)

Observations
1752
1781
1737
1715
1697
Log-Likelihood
-13750
-13634
-13406
-13342
-12962
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using an ordered logit. Deposit insurance data are from Calomiris (1992) and
White (1981). All other information is from the Federal Reserve Board (1931). The dependent variable is
an ordered variable indicating the level of profitability weighted by the number of banks that reported
earning that level of profits. Size category 6 is omitted.

44

Table 9 Effect of Growth of Branching on Profitability by Year, 1926 - 1930

Dependent variable: Profit level of banks in different size categories in a state for each year.
1926
1927
1928
1929
Change in Ratio of Branching to
Total Bank Offices (1922-1925)
Ratio of State Banks to Total
Banks
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
Intercept 7
Intercept 6
Intercept 5
Intercept 4
Intercept 3
Intercept 2

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

2.5***
0.6)
-1.8***
0.1)
-0.4***
0.1)
-1.6***
0.1)
-1.1***
0.1)
-0.6***
0.1)
-0.2***
0.1)
-0.1*
0.1)
0.2***
0.1)
0.2
0.1)
0.2*
0.1)
0.2
0.3)
-0.3***
0.1)
0.8***
0.1)
1.8***
0.1)
2.7***
0.1)
3.4***
0.1)
4.4***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-0.3
0.7)
-2.6***
0.2)
-0.2***
0.1)
-1.5***
0.1)
-1.0***
0.1)
-0.6***
0.1)
-0.2***
0.1)
-0.1
0.1)
0.1
0.1)
0.2*
0.1)
0.2
0.1)
0.1
0.3)
0.3***
0.1)
1.3***
0.1)
2.4***
0.1)
3.3***
0.1)
4.0***
0.1)
4.9***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-0.9
0.7)
-2.0***
0.2)
0.2***
0.1)
-1.6***
0.1)
-0.9***
0.1)
-0.5***
0.1)
-0.1**
0.1)
-0.1
0.1)
0.2***
0.1)
0.3**
0.1)
0.3**
0.1)
0.7**
0.3)
-0.2
0.1)
0.8***
0.1)
2.0***
0.1)
2.8***
0.1)
3.5***
0.1)
4.5***
0.1)

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-2.1***
0.7)
-0.9***
0.2)
0.2***
0.1)
-1.1***
0.1)
-0.7***
0.1)
-0.3***
0.1)
-0.1
0.1)
-0.2***
0.1)
0.3***
0.1)
0.3***
0.1)
0.6***
0.1)
1.1***
0.3)
-1.0***
0.1)
-0.1
0.1)
1.0***
0.1)
1.9***
0.1)
2.6***
0.1)
3.7***
0.1)

1930

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

-2.1***
0.7)
0.5***
0.2)
0.3**
0.1)
-0.8***
0.1)
-0.5***
0.1)
-0.1*
0.1)
0.0
0.1)
0.0
0.1)
0.2***
0.1)
0.4***
0.1)
0.6***
0.1)
1.0***
0.3)
-2.9***
0.1)
-2.0***
0.1)
-0.9***
0.1)
0.1
0.1)
0.9***
0.1)
2.1***
0.1)

Observations (weighted)
1752
1781
1737
1715
1697
Log-Likelihood
-14369
-14101
-13758
-13511
-13070
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using an ordered logit. Deposit insurance data are from Calomiris (1992) and
White (1981). All other information is from the Federal Reserve Board (1931). The dependent variable is
an ordered variable indicating the level of profitability weighted by the number of banks that reported
earning that level of profits. Size category 6 is omitted.

45

Table 10 Branching and Profitability, 1926 - 1930

Dependent variable: Profit level of banks in different size categories in a state and by year.
Coefficient
S.E.
Estimate
Ratio of Branches to
Total Bank Offices
-0.19 ***
( 0.07 )
(lagged)
Ratio of State Banks to
( 0.06 )
-1.29 ***
Total Banks
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
1927
1928
1929
1930
Intercept 7
Intercept 6
Intercept 5
Intercept 4
Intercept 3
Intercept 2
Observations
Log-Likelihood

-0.16 ***
-1.36 ***
-0.84 ***
-0.45 ***
-0.15 ***
-0.12 ***
0.19 ***
0.27 ***
0.35 ***
0.62 ***
-0.02
0.03
-0.13 ***
-0.93 ***
-0.59 ***
0.38 ***
1.43 ***
2.34 ***
3.07 ***
4.12 ***

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.03
0.05
0.04
0.03
0.03
0.04
0.03
0.05
0.06
0.13
0.03
0.03
0.03
0.03
0.05
0.05
0.05
0.05
0.05
0.06

)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)

8640
-69460

Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using an ordered logit and pooled observations. Deposit insurance data are from
Calomiris and White. All other information is from the Federal Reserve Board (1931). The dependent
variable is an ordered variable indicating the level of profitability weighted by the number of banks that
reported earning that level of profits. Size category 6 and the year 1928 are also omitted.

46

Table 11 The Effects of Branching Laws on National Bank Failures, 1927 - 1930
Dependent Variable: Number of failing banks in a state in a year
Legal Environment
Coefficient
Estimate
Intercept
Branch Banking
Permitted
Ratio of Branches to
Total Bank Offices
(1922 value)
Log Banks

S.E.

-2.84***

( 0.89 )

-0.79***

( 0.21 )

0.65***

( 0.11 )

Actual Branches
Coefficient
Estimate

S.E.

-2.79***

( 0.62 )

-4.46***

( 1.28 )

0.63***

( 0.11 )

1928

-0.17

( 0.30 )

-0.16

( 0.30 )

1929

0.16

( 0.29 )

0.16

( 0.29 )

1930

1.07***

( 0.26 )

1.04

( 0.27 )

Dispersion

0.87

( 0.20 )

0.91

( 0.20 )

Observations
192
192
Log-Likelihood
-8.2
-7.8
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using pooled data and count data analysis with a negative binomial distribution.
Information on bank failures is from the Annual Report of the Comptroller. Information on the number of
banks and branching laws is from the Federal Reserve Board (1931). The dummy for the year 1926 is
omitted.

47

Table 12 Effects of Initial Level of Branching on National Bank Failures, 1927 - 1930
Dependent Variable: Average number of failing banks in each group
(where a group is a set of banks in a similar size category in a state)
With Number of National
Banks with Branches
Coefficient
Estimate
Ratio of Branches of State
Banks to Total Bank Offices
(1922 value)
Share of National Banks with
Branches (1922 value)
Ratio of National Branches to
National Banks (1922 value)
Log Banks
Herfindahl Index
Business Fail Rate
Farm Failure Rate
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
1928
1929
1930
constant

Coefficient
Estimate

S.E.

-3.46*

( 2.09 )

-8.00

( 14.59 )

0.57***
-0.15
0.00
23.84
0.38
0.68*
0.59*
0.78***
0.16
-0.51
-0.61
-1.31***
-1.75**
-18.12***
-0.29
0.05
1.06***
-3.52***

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.11
1.68
0.38
102.09
0.35
0.38
0.30
0.21
0.25
0.38
0.38
0.51
0.85
0.55
0.27
0.27
0.26
0.74

With Number of National Bank

Branches

)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)

S.E.

-3.40*

( 2.08 )

-2.94

( 4.78 )

0.57***
0.10
-0.03
29.67
0.35
0.70*
0.59**
0.78***
0.16
-0.51
-0.61
-1.30***
-1.74**
-18.09***
-0.29
0.05
1.06***
-0.61

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.11
1.80
0.37
100.39
0.33
0.38
0.30
0.22
0.25
0.37
0.38
0.51
0.85
0.55
0.27
0.28
0.26
4.77

)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)

Observations
1614
1613
Log-Likelihood
-665.7
-665.6
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using a negative binomial distribution. Standard errors are clustered to account for
multiple observations from the same state. Data on bank failures are from the Annual Report of the
Comptroller of the Currency (1932). Data on the number of bank, size distribution, branching laws, and
number of branches is from the Federal Reserve Board (1931). Business failure rates are from the U.S.
Department of Commerce and farm foreclosures from the Department of Agriculture (1936). Deposit
insurance data are from Calomiris (1992) and White (1981). Size category 6 and the year 1927 are omitted.

48

Table 13 Effects of Branching on National Bank Failures using lagged branching, 1927 - 1930
Dependent Variable: Number of failing banks in each group
(where a group is a set of banks in a similar size category in a state and by year)

Ratio of Branches of State

Banks to Total Bank Offices
Share of National Banks with
Branches
Ratio of National Branches to
National Banks
Log Banks
Herfindahl Index
Business Fail Rate
Farm Failure Rate
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
1928
1929
1930
constant

With Number of National

Banks with Branches

With Number of National

Bank Branches

Coefficient
Estimate

S.E.

Coefficient
Estimate

S.E.

( 1.61 )

-3.92**

( 1.72 )

-3.64**
1.77

( 2.93 )
0.36

0.57***
-0.18
-0.08
33.5
0.32
0.69*
0.59*
0.77***
0.15
-0.52
-0.62
-1.30**
-1.76**
-17.60***
-0.28
0.06
1.08***
-3.50***

(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.11
1.71
0.37
98.6
0.33
0.38
0.31
0.22
0.25
0.38
0.38
0.51
0.85
0.56
0.27
0.28
0.26
0.73

)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)

0.56***
-0.40
-0.10
23.6
0.31
0.67*
0.57*
0.77***
0.15
-0.52
-0.63*
-1.32***
-1.77**
-17.64***
-0.30
0.03
1.05***
-3.71***

( 0.24 )
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(
(

0.11
1.77
0.38
98.2
0.33
0.38
0.31
0.22
0.25
0.38
0.38
0.51
0.85
0.55
0.27
0.28
0.26
0.71

)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)
)

Observations
1613
1613
Log-Likelihood
-656.0
-655.5
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using a pooled sample and a negative binomial distribution. Standard errors are
clustered to account for multiple observations from the same state. Data on bank failures are from the
Annual Report of the Comptroller of the Currency (1932). Data on the number of bank, size distribution,
branching laws, and number of branches is from the Federal Reserve Board (1931). Business failure rates
are from the U.S. Department of Commerce and farm foreclosures from the Department of Agriculture
(1936). Deposit insurance data are from Calomiris (1992) and White (1981). Size category 6 and the year
1927 are also omitted.

49

Table 14 Effects of Initial Level of Branching on National Bank Failures excluding California, 1927 1930
Dependent Variable: Average number of failing banks in each group
(where a group is a set of banks in a similar size category in a state)
With Number of National Banks With Number of National Bank
with Branches
Branches
Coefficient
Estimate
Ratio of Branches of State
Banks to Total Bank Offices
(1922 value)
Share of National Banks with
Branches (1922 value)
Ratio of National Branches to
National Banks (1922 value)
Log Banks
Herfindahl Index
Business Fail Rate
Farm Failure Rate
Deposit Insurance
Size Category 1
Size Category 2
Size Category 3
Size Category 4
Size Category 5
Size Category 7
Size Category 8
Size Category 9
Size Category 10
1928
1929
1930
constant

Coefficient
Estimate

S.E.

-5.96***

-6.76

( 16.40 )

0.54***
-0.21
-0.08
6.69
0.34
0.66*
0.53*
0.79***
0.15
-0.49
-0.65
-1.30**
-1.75**
-17.83***
-0.29
0.06
1.06***
-3.27***

2.15

( 0.11 )
( 1.69 )
( 0.38 )
( 103.47 )
( 0.35 )
( 0.39 )
( 0.31 )
( 0.22 )
( 0.26 )
( 0.38 )
( 0.40 )
( 0.51 )
( 0.86 )
( 0.58 )
( 0.28 )
( 0.28 )
( 0.27 )
( 0.75 )

S.E.

-6.35***

2.29

-0.40

4.82

0.54***
-0.13
-0.10
13.17
0.31
0.67*
0.54*
0.79***
0.15
-0.49
-0.65*
-1.30**
-1.74**
-18.10***
-0.28
0.06
1.06***
-2.90

( 0.11 )
( 1.80 )
( 0.37 )
( 102.09 )
( 0.33 )
( 0.39 )
( 0.31 )
( 0.22 )
( 0.26 )
( 0.38 )
( 0.40 )
( 0.51 )
( 0.86 )
( 0.59 )
( 0.27 )
( 0.29 )
( 0.27 )
( 4.80 )

Observations
1573
1573
Log-Likelihood
-635.4
-635.6
Note. The symbols (***), (**), and (*) indicate statistical significance at the 1, 5, and 10 percent level,
respectively. Estimated using a negative binomial distribution. Standard errors are clustered to account for
multiple observations from the same state. Data on bank failures are from the Annual Report of the
Comptroller of the Currency (1932). Data on the number of bank, size distribution, branching laws, and
number of branches is from the Federal Reserve Board (1931). Business failure rates are from the U.S.
Department of Commerce and farm foreclosures from the Department of Agriculture (1936). Deposit
insurance data are from Calomiris (1992) and White (1981). Size category 6 and the year 1927 are omitted.

50

Appendix Table 1. Data Sources

Two main sets of data are employed. The first consists of state-level aggregate
data on national banks, covering the period 1922-1930. These data are used to compare
the prevalence of entry and exits between states with different branching regimes.
Information on number of banks, mergers, voluntary liquidations, and new banks are
compiled using the Annual Report of the Comptroller of the Currency (1922-1930).
The second contains additional information on national banks in each state
between 1926 and 1930. These data are drawn from the Federal Reserve Board of
Governors (1931) Report on Branch, Chain and Group Banking, Volume 9: Bank Profits
and further categorize banks by size (based on the sum of loans and investments). This
source also includes the information on bank profits by size category. Data from this
Federal Reserve report are also used for the construction of the Herfindahl index of
banking concentration. The four-firm bank concentration index is calculated using data
on the four largest national banks in each state from Polks Bank Directory (various
years).
Bank failures for 1926-1930 are taken from the Annual Report of the Comptroller
of the Currency (1932, table 43, pp.208-28) and the Comptroller of the Currencys
Statements of National Banks (1925-1929), and are matched to the appropriate size
category for the appropriate state using the information contained in Federal Reserve
Board of Governors (1931).
State bank data are matched to branching laws and to indicators of state economic
activity. Information on the branching laws for each state are from the Federal Reserves
Report on Branch, Chain and Group Banking, Volume 2: Branch Banking in the United
States. This reports the developments in each states branch banking laws from 1909 until
1931. Detailed information on state branching laws (including whether the de jure rather
than the de facto situation was used) is shown in Appendix Table 2. Information on
Deposit Insurance follows Calomiris (1992) and White (1981). Business failures and
population estimates are from the U.S. Department of Commerce, Statistical Abstract of
the United States (various years). Farm foreclosure (bankruptcies) rates are computed
using data from U.S. Department of Agriculture (1936) while income shares are derived
from the 1920 Census.

51

Appendix Table 2. Branch Banking Laws

State

Type

Year Law
Passed

Alabama

Unit

1911

A few banks have branches

Arizona

Statewide

1901

Branching had been practiced before law came into effect

Arkansas

Unit

1923

State commissioner authorizes a few "exceptions"

California

Statewide

1909

Branching had been practiced before law came into effect

Colorado

Unit

1909

Connecticut

Unit

1902

Statewide

1895

Florida

Unit

1913

Georgia

Multiple

1929

Idaho

Unit

1919

Illinois

Unit

1923

Indiana

Unit

1921

Iowa

Unit

1927

Prior to 1927, branches had been "not authorized"

Kansas

Unit*

1929

Law against it enacted in 1929. Previously there was no law.

Delaware

Notes

If charter allows
Branching allowed until 1927, banned until 1929 when it is permitted in
Savannah and Atlanta
Prior to 1923, branches had been "not authorized"

Kentucky

Statewide*

1895

In 1902 the banking authority stated that law did not authorize, but "was
not construed as prohibitive." In 1909 the courts say the banks can't have
branches but can have "offices to receive deposits and pay checks or
transact other necessary duties not requiring special discretion or business
acumen." Observers at the time noted little difference between these
agencies and branches.

Louisiana

Limited

1902

2 branches in the same parish

Maine

Limited

1895

Only in the county of the home office or contiguous counties.

Statewide

1910

Branching had been practiced before law came into effect

Massachusetts

Limited

1928

Trusts can have branches in the same city, prior to 1928 were limited to
one branch

Michigan

Limited*

1895

No law, but a lot of branches in the city of the home office

Minnesota

Unit

1923

Mississippi

Limited

1924

Missouri

Unit

1899

Montana

Unit

1927

No law prior to 1927

Nebraska

Unit

1927

No law prior to 1927

Maryland

Prior to 1924, the law had prohibited branches

52

Appendix Table 2, continued

Nevada

Unit

1909

New Hampshire

Unit*

1895

New Jersey

Limited

1895

New Mexico

Unit

1915

Allows "mercantile corporation which maintains a banking department to

continue operations at its branches." A clause in the law specifically for a
particular corporation.

Limited

1919

Branching within cities of 50,000

North Carolina

Statewide

1921

Branching had been practiced before law came into effect

North Dakota

Unit*

1895

Branches were not specifically mentioned, but the law was construed as
not permitting them.

Limited

1923

In contiguous communities

Oklahoma

Unit*

1895

No law

Oregon

Unit

1921

Pennsylvania

Limited

1927

Rhode Island

Statewide

1908

South Carolina

Statewide*

1895

No law per se, but instead what the capital requirements would be should
the bank have branches

South Dakota

Unit*

1895

No law

Limited*

1925

Law unclear, seems to be allowed in the county of the home office

Texas

Unit

1905

Utah

Unit

1917

Vermont

Multiple

1929

Went from "not authorized" to able to establish "agencies" which are

branches in all but name

Virginia

Multiple

1928

In 1922 authorized for anywhere, in 1928 restricted to cities of 50,000.

Washington

Unit

1920

West Virginia

Unit*

1929

Wisconsin

Unit

1909

New York

Ohio

Tennessee

Commissioner reported that he was not aware of any law prohibiting or

allowing branching.

Branches are only permitted in places where national banks have

branches already. Prior to 1927, it had been in home office-city only.

Technically allowed by law from 1925-1929, however the commissioner

of banking did not permit them.

Law of 1921 has banks articles of incorp. (AoI) state the "place or places
where its offices be located," while the 1926 law has the AoI state the
"place where its office..."
Note: All types are as indicated by law (de jure) except were indicated by a * in which case the de facto
type is used. Please consult the table for the reason the de jure is not used.

Wyoming

Multiple

1926

Source. Federal Reserve Board of Governors (1931), Report of the Branch, Chain, and Group Banking
Committee, Volume 9.

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