Do Geographical Distance and Diversification Really Matter for a Bank’s Market Power?

Abstract

Using a large sample of Italian banks over the period 2006-2009, this paper provides new evidence for the effect of the geographic distance between bank’s headquarters and its branches; and furthermore for firm’s characteristics, such as diversification strategies, risk exposure, ability to control the internal costs on competition and market’s characteristics, such as GDP, market share, and the number of foreign-owned branches. Working from the translog cost function, we employ the Lerner Index as a measurement of a bank’s market power. Our findings suggest that cost efficiency, geographical distance, and diversification strategies are crucial to explain differences in the monopoly market power. Focusing on the market characteristics, the Lerner Index seems to be related to the number of potential foreigner competitors, and finally by macroeconomic variables, such as the Gross Domestic Product (GDP).