Finance and Efficiency: Do Bank Branching Regulations Matter?

We document that the deregulation of bank branching restrictions in the United States triggered a reallocation across sectors, with end effects on state-level volatility. This change in state-level volatility cannot be explained simply by shifts in sector-level returns and volatility. A reallocation effect is at play. To study this effect, we invoke a benchmark allocation based on mean-variance portfolio theory applied to sectoral returns. Wefind that the realized sectoral allocation of output at the state-level converges towards this benchmark allocation, at a rate that is hastened following the deregulation. This partly occurs because sectors with zero weight in the benchmark allocation see their share of total output shrink. We show convergence is particularly strong in sectors characterized by young, small and external finance dependent firms, and for states that have a larger share of such sectors. Thefindings are robust to the endogeneity of deregulation dates. They suggest that improving bank access to branching affects the sectoral specialization (or diversification) of output, in a manner that depends on the variance-covariance properties of sectoral returns, rather than on their average only