The Impact of Multimarket Contact on Efficiency and Profitability

Abstract

Our study of 39 Venezuelan banks from 2006-2010 examines the implications of multimarket contact (MMC) on bank operational efficiency. Much prior work has concluded that MMC naturally coincides with scale and scope economies, creating a natural association with efficiency, but does not develop a direct causal linkage between MMC and efficiency. In contrast, our study provides theory and evidence that MMC has a U-shaped relationship with operational efficiency. At low levels of MMC, mutual forbearance leads to a relaxation of competitive intensity, which leads to higher and more stable prices. The lowered competitive intensity and stable profitability leads to reduced effort and vigilance on the part of managers to increase or maintain efficiency. In contrast, at higher levels of MMC, the relationship turns positive as firms with MMC discover opportunities to coordinate on matters related to efficient operations thus leading to higher efficiency. Additionally, we provide theory and evidence that MMC’s impact on profitability is partially mediated through operational efficiency. This partial mediation supports the prediction that MMC is often a correlate of operational efficiency, in addition to being a causal antecedent of it. We test our predictions with data from the Venezuelan banking industry, capturing MMC at the firm-in- market level. Venezuela is relatively closed to global banks, creating a local oligopoly with no new bank entry or exit during our study period.