The Determinants of Commercial Bank Holdings of Municipal Securities: 1985-1988

This paper presents an empirical analysis of commercial bank holdings of municipal securities (munis) from June 1985 through December 1988, using the FFIEC’s Reports of Condition and Income. While motivated by previous analyses suggesting that a shift from munis to taxable securities is a primary determinant of the overall impact of the Tax Reform Act of 1986 on bank profitability, this paper does not directly analyze the impact of that legislation. However, the paper modifies the specification of muni demand employed in previous analyses to consider roles for state pledging requirements, realization of capital gains or losses, and the simultaneous provision for loan losses. The results provide some support for including state pledging requirements, realization of capital gains and losses, and the loan loss provisions in analyses of muni holdings.