When local banks lend to local communities: evidence from Italy (2007-2014)

During the period 2007-2014, when the Italian financial system was hit by two severe crises, Italian local banks increased their presence on local markets, expanding their branch network while other bank networks shrank, and bolstered their market share of loans to households and firms. At the same time, the quality of their credit worsened markedly, especially for those banks that at the onset of the crisis had substantial exposures to non-traditional customers (in particular large firms) and the real estate sector. The rise in loans’ riskiness, which affected the balance sheet equilibria of these local banks, with a growing number of them becoming distressed, and the larger deterioration of loans’ quality in southern regions show that local banks’ lending activity is prone to risks, which, if not adequately tackled, may ultimately outweigh the benefits of customer proximity.