This study aims to identify the motivations for Japanese regional banks to expand their branch networks, and to clarify whether banks with wide networks of branches can practice region-based relationship banking. We use the data on Japanese regional banks for the Fiscal Years (FY) 2002-06, which is approximately the time period during which Financial Services Agency (FSA) required regional financial institutions to practice relationship banking. First, we examine the background of branch expansion and the differences in the extent of branch networks. Next, we test whether banks with wide networks of branches practice region-based relationship according to the purpose of FSA’s ‘Relationship Banking Policy’. Results indicate that (1) regional banks whose headquarters are located in less competitive and less wealthy markets more frequently tend to expand their branch networks geographically; and (2) branch expansions have a negative influence upon the results of relationship banking. Thus, from a policy perspective, our findings suggest that the current complicated situation of the Japanese regional banks is inconsistent with region-based relationship banking.

Over the last few decades, the Japanese banking sector has experienced remarkably rapid deregulation such as the removal of the ceiling on the deposit rate that a bank can set and allowing the sale of investment trusts in bank branches. The relaxation on bank branches is also a notable event for the regional banks. Until gradual deregulation began in the 1980s, new location and relocation of bank branches were severely restricted. That is, banks could not expand their branch networks as they desired. However, after the restriction on the number of new branches a bank could establish was removed in 1997, branching became one of the most important tools through which banks received more money from depositors, and enabled them to search for new lending opportunities. In particular, since the ultra-low interest rate policy has been in effect since the late 1990s, branching is considered the major form of non-price competition amongst banks.

Note that since 2003, the Financial Services Agency (FSA) has encouraged regional financial institutions to practice region-based relationship banking.1 FSA has also been expected to promote region-based relationship banking further with a view to promoting the revitalization and activation of regional economies, the facilitation of SME financing by, for example, encouraging new businesses in the region, thereby ultimately realizing active and vital regional societies.

However, quite a few regional banks have expanded their branch networks in the neighboring prefectures, which is considered contrary to the purpose of region-based relationship banking. There are also some cases of setting up of new branches within urban areas far away from each headquarter. Certainly, since all the Japanese regional banks are stock companies, although some are unlisted ones, it seems natural to use branch resources strategically: in other words, to establish new branches in other regions where high profits can be expected for the sake of profit maximization by stockholders. In addition, because of the long and severe regional recession in recent years, it may be suggested that some regional banks are forced to expand their business areas to receive more money from depositors, and to search for new lending opportunities. Although regional economic conditions are the crucial factors which regional banks must manage, there remains the possibility that banks with widespread branch networks in other regions do not regard the businesses in their own district as important ones, and therefore regional economies cannot be activated now, despite this being the main purpose of the FSA’s ‘Relationship Banking Policy’.

Bank Management Journal, Indian Banks, Asset Liability Management, Data Filtering, Least Absolute Deviation, Decision-Making Group, Commercial Banks, Ordinary Least Square, Banking Industry, Kenyan Banks, Least Squares Regression, Mutual Fund Industry, Linear Programming, Financial Markets, Capital Required Adequacy Ratio, Public Sector Banks.