Review of Industrial Organization
14: 163–182, 1999.
1999 Kluwer Academic Publishers. Printed in the Netherlands.
Multimarket Contact in Banking
STEVEN J. PILLOFF
Economist, Board of Governors of the Federal Reserve System, 20th and C Streets, NW, Mailstop
149, Washington, DC 20051, U.S.A.
Abstract. According to linked oligopoly theory, the anticipated effect of multimarket contact is
reduced competition. Speciﬁcally, the theory predicts that contact lowers competition by reducing the
beneﬁt of aggressive action in any single market by providing rivals with the opportunity to retaliate in
multiple common markets. The results of this paper are consistent with the theory. In banking, contact
is positively related to proﬁtability. Although the economic impact of this relationship is unimportant
for most institutions, the relationship is meaningful for the small group of banks most heavily
exposed to contact. This ﬁnding suggests that the importance of contact may rise as consolidation of
the banking industry continues.
Key words: Multimarket contact, linked oligopoly, mutual forbearance, banking, antitrust.
Analysis conducted by antitrust and banking authorities of the competitive effect
of proposed banking mergers is based largely on internal characteristics of local
markets. Factors such as the Herﬁndahl–Hirschman index, number of competitors,
entry barriers, and market size and growth are examined to assess the competitive
structure of a given local market.
Features external to a market are generally
excluded from this process. Omitting one such factor, the degree of contact outside
a given market among banks competing in that given market, from analysis may
lead to an incomplete assessment of competition.
Markets with banks that meet
frequently in other markets may exhibit different levels of competition than markets
with banks having no additional contact.
According to linked oligopoly theory, the anticipated effect of multimarket
contact is reduced competition. Banks that compete in several markets recognize the
incentive associated with their mutual interdependence. Each bank independently
determines that aggressive action in any single market may be met with rival
Federal Reserve Board, Washington, DC. I would like to thank Dean Amel, Tim Hannan,
Patrick Lampani, Robin Prager, Steve Rhoades, and two anonymous referees for helpful comments
and suggestions. I would also like to thank Michael Howell for excellent research assistance and
Cecilia Hurt for valuable typing. The views expressed are those of the author and do not necessarily
reﬂect those of the Federal Reserve Board or its staff.
For a good example of typical factors examined by the Federal Reserve Board in its antitrust
analysis, see any Board Order regarding a merger case in the Federal Reserve Bulletin.
Throughout the paper, the term bank refers to the consolidated banking organization.