Internet Access and Bank Deposit Rates

This paper explores the level and dispersion of retail bank deposit interest rates and finds that a crucial differentiating factor in whether deposit rates rise or fall in search costs is the extent to which depositors are responsive to higher deposit rates. Using a search-theoretic model in which depositors have uniform search costs but differing utilities from bank services, lower search costs through greater internet access cause equilibrium deposit rates to rise for products in which depositors are more rate-sensitive (e.g., certificates of deposit (CDs)) and fall for less rate-sensitive products (demand deposits). The study’s contribution, in contrast to typical single-product analyses, is in revealing search cost effects across products with differing elasticities. In so doing, a rationale is provided for the mixed results in the empirical literature. Using United States census and internet access data from 2001 to 2010, a time period for which internet access grew nationally from 55 to 76% according to the Pew Research Center, the study finds that a reduction in search costs, measured by greater internet access, is associated with a higher average interest rate on CDs and lower demand deposit rates. Additionally, dispersion of both demand deposit rates and CD rates are negatively correlated with search costs, consistent with theory under reasonable conditions. While internet access results in more deposits, the differences in rate movement across banking products imply that depositors gain proportionally more welfare in the case of CDs, but banks gain proportionally more welfare in the case of demand deposits.