Business
Does Regional Economic Performance
Affect Bank Conditions?
New Analysis of an Old Question
Mary Daly, John Krainer, and Jose A. Lopez
Federal Reserve Bank of San Francisco
Economic Research Department
101 Market Street
San Francisco, CA 94105
Draft date: November 28, 2003
Abstract: The idea that regional economic performance affects bank health is intuitive and
broadly consistent with the aggregate banking data. That said, micro-level research on this
relationship provides a mixed picture of the importance, size, and timing of regional variables
for bank performance. This paper helps reconcile the heterogeneous findings of previous
research by: (1) employing a unique ¡°composite measure¡± of regional economic performance
that combines several regional indicators into a single index; (2) constructing bank-specific
measures of regional economic conditions, based on bank deposit shares, that account for
banks¡¯ presence in several states; and (3) estimating models for all banks and intra- and interstate
banks separately. Empirical results based on this bank-specific composite regional
measure point to a tractable link between regional economic performance and bank health.
The importance of regional variables holds for both intra- and inter-state banks. Out-ofsample
forecasts indicate that the composite index also helps tie down the relative riskiness of
bank portfolios across states. Finally, although interstate banks do seem to diversify away
some of their portfolio risk, our analysis suggests it is too soon to conclude that interstate
banks are immune from regional influences.
Acknowledgments: The views expressed in this paper are those of the authors and not necessarily those of the
Federal Reserve Bank of San Francisco or the Federal Reserve System. We thank seminar participants at...
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