Cost synergies in the commercial banking industry: An econometric examination

This study contributes to the issue of bank product deregulation by examining whether cost synergies, measured by economies of scope, exist in the production of banking services. Using the multiproduct cost economies approach, the existence of overall and product-specific economies of scope and scale were investigated. The major model contains three equations--a cost function and two share equations. A generalized translogarithmic cost function includes five bank outputs and three input prices. The cost, output, price variables were standardized by their respective means. The two share equations were included in order to achieve better efficiency of the estimations. In addition, the system of equations must satisfy certain regularity restrictions such as symmetry and homogeneity. The system of equations was estimated using seemingly unrelated regressions (SUR) technique. The estimation of the cost function was carried out using a sample of 2,033 banks from Call Reports tapes for the three-year period 1985-1987. The cost functions for branch banks and unit banks were estimated separately.;The results indicate that generally banks did not exhibit significant overall scope economies, but there was some degree of product-specific scope economies and only very few product pairs were cost complements. Branch banks appear to be better able to exploit economies from joint production. There also appears to be a pattern toward increasing cost synergies as banks increase in size. Small banks generally experienced scope diseconomies while large banks benefitted from the joint production. Based on evidence found here, the tendency in the past toward more diversified banks should be based on something other than production cost considerations.;Consistent with the previous findings, we find overall scale economies exist in banking in small banks. Unlike the results of previous studies, we also find significant scale economies in very large banks. The difference must be due to the fact that our data contain the largest banks in the nation. Large banks exhibit economies of scale right at the size class where all previous studies left off because of the limitation of the FCA data.