Bank Deposit Rate Deregulation and Customer Service Levels

Bank Deposit Rate Deregulation and Customer Service Levels The commercial banking industry may be subject to inherent instability problems that could lead to significant disruptions in consumer transaction activity. As a result, banking is one of the more regulated industries in the United States. The services provided are considered essential, and significant concern exists about the consumer's ability to have adequate access to low-priced banking services without regulatory oversight. While the recent legislative trend is toward relaxing some of these restrictions, significant disagreement still exists over the resulting impact on consumers (Gross 1987; Kutler 1987; Thomas 1988). The banking industry is unique because the degree of regulation aimed at protecting consumers varies significantly by state, e.g., state-determined entry and expansion restrictions and allowable organization structure. As a result, the industry is a useful testing ground in which to measure the impact of policy-induced competitive restrictions on consumer welfare. One result of these restrictions has been to increase the use of alternative forms of nonprice competition (White 1976; Lloyd-Davies 1977; Sealey 1979; Rogowski 1984; Hanweck and Rhoades 1984) and elimination of the restrictions may significantly alter industry behavior (Weisbrod 1980; Petersen 1981; Berger and Hannan 1987). For example, it has been argued that the recent elimination of bank deposit rate ceilings will result in a significant change in pricing procedures for all bank services. Significant societal effects could result as consumers are serviced by firms more accountable to the forces of the marketplace. At issue is whether or not customers will lose some of the benefits resulting from nonprice competition. In this paper the impact of deposit rate deregulation on the influence of regulated bank entry barriers on customer service levels is evaluated. Specifically, liberal entry has been shown to result in preferred service levels to bank customers--measured as the absolute number, per capita number, or proximity of banking facilities to the consumer (Savage and Humphrey 1979; Seaver and Fraser 1979; Evanoff 1988). However, this improved service may have resulted from the existence of interest rate ceilings on deposits that have caused banks to overinvest in real physical capital. That is, without the ability to compete directly by price, a form of nonprice competition was employed in which more offices provided improved service accessibility or convenience. As deregulation occurs, banks may change pricing procedures to eliminate previously subsidized prices and to maintain profit levels in reaction to rising, unregulated interest payments. This may result in a decrease in the number of bank facilities as those opened as a nonprice means of competing may not be viable once more direct price competition is allowed. Thus, competitive deposit rates may be realized only at the expense of decreases in customer service. A model is developed to explain the number of bank offices per service area, a service accessibility measure, and a variant of that model is used to show empirically how the service level is influenced by entry restrictions, i.e., branching restrictions. Once developed, estimates are provided for periods both prior to and after rate deregulation. If the benefits from liberal entry result mainly from nonprice competition, one would expect to see a decline in service levels in recent years due to the elimination of the need to compete on a nonprice basis. Thus, we would expect to see a shift in the relationship between the service level and its determining factors. If branching continues to lead to preferred service levels, the positive impact of branching is strongly reinforced and concerns about potential declines in customer service may be unwarranted. Our results suggest that the social benefits from liberal entry are significant, are not excessively influenced by nonprice competition, and, therefore, remain after interest rate deregulation. …