A STATISTICAL ANALYSIS OF MEMBER BANK PROFITABILITY DIFFERENCES

THE BASIC OBJECTIVE of this study is to provide a better understanding of the forces affecting relative commercial-bank profitability. More specifically, the major purpose is to test the statistical significance of several forces which have been hypothesized as affecting differences in bank profitability. Part of the overall objective is an improved understanding of the general and specific bank operating relationships through which these forces are transmitted and relative profitability determined. A subsidiary purpose involves the development of sets of aggregative profitability estimating equations (including coefficients for size and location) based on the application of regression techniques to the data generated for the major objective of the study. The data generated are an aggregation of 64 bank operating ratios (e.g., total expenses to total assets) compiled cross-sectionally for member banks in 1963 and 1964. The operating ratios are categorized as reflecting overall (profitability and gross revenue) measures, expense-management measures, funds-source measures (including the explicit "costs" of deposits and capital), or funds-use measures (including the "returns" on the asset uses). Each year's data consist (theoretically) of 384 means and variances for each of the 64 operating ratios for the member banks grouped according to four classes of relative profitability (measured by net income after taxes to total capital accounts) in eight deposit-size groups in each Federal Reserve District. The statistical technique of analysis of variance was used to test the data for each operating ratio for significant differences reflecting the influence of each hypothesized effect. The forces tested for their influence on relative bank performance are: 1) management ("management effects," the results of differences in bank-management objectives, policies, decisions, and actions); 2) total deposit size ("size effects"); 3) regional geographic location ("district effects"); 4) changes in the general environment ("time effects"). These effects were included in various combinations in four analysis-of-variance models in each of which one effect was tested for significance while the other effects included were held constant. The models were tested within the context of relevant hypotheses from the literature. The general results indicate that all of the effects tested-management, size, district, and time-were significant influences on relative profitability in each year studied. As to the general category of bank operating relationships relatively most often affected by each force, the ranked results are as follows: 1) management effects: overall measures, expense-management measures, funds-source measures, and funds-use measures; 2) size effects: overall measures, expense-management measures, funds-use measures, and funds-source measures; 3) district effects: funds-source measures, expense-management measures, overall measures, and funds-use measures; 4) time effects: funds-source measures, funds-use measures, expense-management measures, and overall measures. The sets of profitability estimating equations explain a significant portion of the total variation in profitability in each year.