Bank Performance and Regional Economic Growth: Evidence of a Regional Credit Channel

This paper examines the relationship between bank performance and economic growth at the state level. We develop a regional credit view to explain how, due to information costs, regional banking conditions can influence local economic activity by affecting a region’s ability to fund local investments. The model suggests that local banking-sector problems may constrain economic activity in financially distressed regions, whereas no such link need be evident in financially sound regions. We test the empirical relevance of this credit view for the 1983-1990 period using state-level data and find evidence of a regional financial channel to output. Specifically, local banking-sector conditions explain more of real personal income growth in states whose share of nonperforming loans is above the national share.