Speaker: Nicola Cetorelli
Title: Evolving Intermediation: An Analysis of the Transformation of Business Scope in US Banking

Abstract: Financial intermediation has shifted dramatically over the last few decades. The sector has traveled from a model where commercial banks brokered supply and demand of intermediated funds to a decentralized system where the matching has increasingly occurred through much longer credit intermediation chains, with non-bank entities emerging as providers of specialized inputs along the way (Cetorelli, Mandel, and Mollineaux, 2012). This, along with regulatory changes, has created many new opportunities for potential synergies across a variety of business types. We argue that as the prevailing mode of intermediation evolves over time, banks that diversify into new areas to match such evolution benefit — in contrast to indiscriminate diversifiers, who will incur the cost of agency for little benefit. Testing such conjectures requires a level of data detail that has simply not been historically available. First, it requires us to know which activities are “new” (to a banking organization) and which are not. Second, it requires a comprehensive coverage, as opposed to a representative sample, to gauge overall banking industry dynamics and how “related” various segments become over time. We use a newly created dataset detailing the organizational structure for the entire population of US BHCs. It allows us to track each entity’s subsidiaries and the new and different business activities they are involved in over time (Cetorelli and Stern, 2015). We map entry and exit across activities, and explore how different strategies of business-scope transformation have performance implications that differ between firms and over time. The results are consistent with our expectation: Indiscriminate scope expansion can be detrimental, presumably because the frictions associated with a more complex structure and the related costs outweigh any benefits. Expanding in activities that are more closely related to the core business of banking actually yields a net positive impact. We show this is particularly true once we take into account that the extent to which activities are related to core banking is itself in flux, as a result of market, technological and regulatory change. We find that expanding in a given activity today may have very different performance effects if done instead in a future period.

Bio: Nicola Cetorelli is a Vice President at the Federal Reserve Bank of New York and the Head of the Financial Intermediation Function in the Research Group. His research has focused on the industrial organization and the corporate finance characteristics of the banking industry and the relationships with real economic activity. More recently he has worked on themes of international banking and on the evolution of financial intermediation. He represents the New York Fed on various Financial Stability Board's international working groups. He has published in a number of scholarly journals, among which The Journal of Finance, Journal of Economic Theory, American Economic Review, Journal of International Economics. He has also written many articles in various policy journals and book chapters as well. He received his Ph.D. in Economics from Brown University and a B.A. from the University of Rome, Italy.