Bank Mergers and Small Firm Financing

Article excerpt

SINCE 1990, the number of insured commercial banks has fallen by over 4000 as a result of merger, acquisition, or failure. (1) The causes of this consolidation have been well documented (e.g., Berger, Demsetz, and Strahan 1999), and a substantial literature examining the consequences for small firms has evolved as well (e.g., Berger, Kashyap, and Scalise, 1995, Berger and Udell, 1996, Keeton, 1995, Peek and Rosengren, 1996, Strahan and Weston, 1996, Peek and Rosengren, 1998, Strahan and Weston, 1998, Berger et al. 1998, 2000). One concern of regulators is the effect of consolidation on small firm access to capital and the cost of that capital. Small firms play an important role as the engine of innovation and job growth in the economy and are heavily dependent on bank financing for external capital (Cole, Wolken, and Woodburn, 1996, Berger and Udell, 1998, Dennis, Dunkelberg, and Van Hulle, 1988). Thus, absent significant excess capacity, any reduction in the availability of credit, or increase in its cost as a result of banking consolidation could have important macroeconomic implications.

This study uses firm-level data obtained from the 1995 Credit, Banks and Small Business Survey of U.S. small borrowers conducted by the National Federation of Independent Business (NFIB), instead of bank balance sheet data, to examine the effect of bank mergers on small business credit market experiences. Unlike the National Survey of Small Business Finance (NSSBF) conducted by the Board of Governors of the Federal Reserve System, this survey includes a question about the recent merger experience of the small firm respondents. Twenty five percent of the respondents reported a merger or acquisition of their primary bank within the prior three years. The data set permits an assessment of how the incidence of mergers has affected the quantity of credit available, the cost of credit (both price and nonprice terms), and the quality of service delivery while controlling for firm, bank, and market size characteristics.

Three conclusions emerge from this analysis. First, mergers had no effect on the ability of firms to obtain the credit they desired, but they did increase the search cost of obtaining credit: firms that reported a merger of their primary bank more frequently reported shopping for a new bank. Second, mergers had no significant effect on reported interest rates on the most recent loan, but other nonprice terms (e.g., collateral requirements, compensating balances, the number of services with fees) were more onerous. And third, mergers had an adverse effect on an index of service delivery that included a rating of the accessibility of the account manager, services offered, capability of staff, continuity of account manager, and lending criteria. Little evidence is found that younger (and smaller) firms, the most informationally opaque, bear a significantly higher "cost" of merger activity compared with older, larger, less informationally opaque firms.


Bank mergers can affect small firm financing through three channels. The first is market power, where the acquiring firm gains enough control over loan markets to dictate profit maximizing price and quantity. (2) Mergers may also eliminate excess capacity in the financial services sector. In this case, the quantity of services may fall and price may rise as the survivors attempt to adjust their business mix to earn a competitive rate of return on their capital. The final channel is changes in organizational architecture that increase the cost of collecting proprietary information as well as agency costs as the size of the organization increases (e.g., Berger and Udell 2002). Large institutions have higher coordination costs that generally result in more standardized credit policies to ensure that remote lending decisions are consistent with the firm's overall goals and to control any "collusive" behavior between lending officers and small firm borrowers. …