Anoop Rai

Operational efficiency in banking: An international comparison

Abstract In this paper, we estimate a global cost function for international banks to test for both input and output inefficiencies. Our results for 1988–1992 suggest that for banks in 15 countries, the prevalence of input X-inefficiencies far outweighs that of output inefficiencies (as measured by economies of scale and scope). Moreover, our results suggests that the distribution-free model overestimates the magnitude of X-inefficiencies relative to the stochastic cost frontier approach. Large banks in separated banking countries (that prohibit the functional integration of commercial and investment banking) had the largest measure of input inefficiency amounting to 27.5 percent of total costs as well as significant levels of diseconomies of scale. All other banks have X-inefficiency levels ranging in the area of fifteen percent of total costs with slight economies of scale for small banks.

The structure-performance relationship for European banking

Abstract The relationship between market structure and performance has been studied extensively for American banking. In contrast, little work has been done to investigate this relationship for European banking. Two explanations of a positive correlation between profitability and concentration have been advanced, the traditional structure-performance hypothesis (SCP) and the efficient-structure hypothesis. Previous empirical tests of the alternative hypotheses have yielded mixed results but the tests were not robust because they did not incorporate measures of efficiency directly in the model. This study applies a stochastic cost frontier as proposed by Aigner et al. (1977) to derive measures of X-inefficiency and scale-inefficiency, under the assumption that the errors are distributed half-normal. We incorporate these measures of inefficiencies directly into the tests as proposed by Berger and Hannan (1993). We do not find a positive and significant relationship between concentration and profitability for a sample of banks across 11 European countries over a four year period, 1988–1991. However, we do find evidence to support one of the two versions of the efficient-structure hypothesis for banks located in countries with low concentration of banks. Since little support is found for either of the SCP hypotheses, a simple policy of strict limitations on cross-border acquisitions and growth is not warranted.

Cost Efficiency of International Insurance Firms

This article examines the cost efficiency of insurance firms located in 11 countries over a five-year period, 1988–1992. Two X-inefficiency measures are derived, one from the stochastic cost frontier model and the other from the distribution-free model. The results show that X-inefficiencies not only vary by country but by size and specialization. Firms in Finland and France have the lowest X-inefficiency, while firms in the United Kingdom have the highest. On average, small firms are more cost efficient than large firms worldwide. Firms grouped into those offering single or specialized services also operate more cost efficiently than those offering a combination of life and nonlife services (combined firms). The results also indicate that the X-inefficiency estimates derived from the stochastic cost frontier model are more suitable for this sample of data than those derived from the distribution-free model.

Codetermination and enterprise performance: Empirical evidence from West Germany

Abstract This paper investigates the effect on company performance of the 1976 West German Codetermination Law, which expanded decision-sharing rights of the work force. Property rights theorists have predicted that capital-labor ratios will increase under conditions of codetermination, while participation theorists have asserted that productivity will increase. The two schools likewise disagree about its impact on profitability. This paper tests these hypotheses by performing nonparametric tests on three categories of firms distinguished by the level of participation mandated by the Codetermination Law. A sample of 63 firms was obtained from questionnaires mailed directly to West German firms. The analysis found that capital-labor ratios actually declined for the category of firms directly affected by the legislation, that productivity declined, and that profitability increased. The weight of the evidence slightly favors the participation theorists, although it is far from conclusive.

Bank charter values and capital levels: An international comparison

Abstract Although recent regulatory policies, such as the Basle capital requirements, purport to level the international financial playing field, country-specific effects may still endure. These country-specific factors may stem from regulatory policies (such as deposit insurance, access to discount window borrowings, too big to fail and forbearance policies, lender of last resort privileges), or may be the result of market forces (such as monopoly power, cost synergies, information impediments to development of domestic financial markets). In this paper, we utilized a market-based valuation measure, Tobins Q, to determine whether bank charter values include a country-specific component. Although we found the existence of country-specific components in Spain, Japan, and the United States, their significance declined over the period 1991–1993. We examined whether country-specific factors have an impact on bank capital levels. We isolated two opposing effects: the “moral hazard effect” (implying a negative relationship between charter values and capital levels) and the “market rents effect” (implying a positive relationship between bank charter values and capital levels). We found that the market rents effect dominates for banks in countries with insignificant levels of country-specific components in their charter values, while the moral hazard effect dominates in countries where the country-specific factor is strong. This is consistent with risk enhancing (i.e., capital reducing) bank behavior in countries with subsidized governmental safety nets which enhance bank charter values.

The Impact of the European Union Insurance Directives on Insurance Company Stocks

This article examines the impact of the passage of the Second and Third Life and Non-Life European Insurance Directives on insurance firms located in 14 European Union countries, Norway, and Switzerland. The third directives have a wealth effect on the European insurance market, while the second directives do not. The Third Life Directive resulted in a wealth increase for the European insurance market, while the Third Non-Life Directive had a modest negative wealth effect. The wealth effects differ at both the country and firm level. The directives have differential impacts on firms depending on the firms’ characteristics and those of the market they operated in prior to the directives. Regression results indicate that the second directives have impacted firms in protected markets negatively, especially those with higher debt and higher returns on assets. At the time of the third directives, insurance firms benefited, even those in previously protected markets, indicating that firms may have positioned themselves in preparation for the liberalization of the laws.

Operational efficiency in banking: An international comparison Reply to the comment

Abstract To avoid problems associated with Jensens inequality, we use a corrected inefficiency measure to compare the estimate of inefficiency obtained using the distribution free (DF) method with the estimate obtained using the stochastic cost frontier (SCF). The results of the paper are unchanged. The DF method yields measures of inefficiency that are significantly higher than measures obtained using the SCF.

Market Risk for Foreign Currency Options: Basle's Simplified Model

We show that capital charges for foreign currency options estimated using a standardized model proposed by the Basle Committee on Banking Supervison are not consistently related to value at risk (VAR). We propose a simplified incremental model (SIM) and a simplified value at risk (SVAR) model and compare them to an internal model based on J.P. Morgans RiskMetricsTM. We conclude that it is possible to construct a standardized model that is as effective as an internal model, especially for small portfolios. Since inaccurate forecasting under internal models is now subject to penalties, some banks may prefer standardized models.