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Measuring cost efficiency in presence of heteroskedasticity: The case of the banking industry in Taiwan

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  • Mohanty, Sunil K.
  • Lin, Winston T.
  • Lin, Hong-Jen
Abstract
We measure cost efficiency of commercial banks in Taiwan using annual data for the 1996–2011 period. Following Caudill et al. (1995), and Caudill and Ford (1993), we develop a generalized dynamic model that accounts for heteroskedasticity in the cost inefficiency component of the error term in the stochastic frontier (SF) model and adopt a single-step approach (e.g., Battese and Coelli, 1995; Wang and Schmidt, 2002) to circumvent the problems associated with the two-step estimation procedure used by prior studies. We show that the results based on the heteroskedastic stochastic frontier (HSF) model combined with the single-step estimation approach sharply contrast with that of the traditional ‘two-step’ approach. These are important findings because they point to the limitations of previous studies on cost efficiency that use a two-step estimation approach. Our findings suggest that asset size, loan quality, and bank equity-to-asset ratio have significant negative impact on cost efficiency of banks. Government-owned banks in Taiwan are more likely to be cost efficient than privately owned banks. Macroeconomic environmental factors such as money supply and foreign exchange reserve ratio are likely to influence the cost efficiency of banking industry in Taiwan.

Suggested Citation

  • Mohanty, Sunil K. & Lin, Winston T. & Lin, Hong-Jen, 2013. "Measuring cost efficiency in presence of heteroskedasticity: The case of the banking industry in Taiwan," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 26(C), pages 77-90.
    • Handle: RePEc:eee:intfin:v:26:y:2013:i:c:p:77-90
    DOI: 10.1016/j.intfin.2013.05.001
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    Cited by:

    1. Li-Hua Lai & Li-Chin Hung & Chau-Jung Kuo, 2016. "Do Well-Financial Holding Company Organized Banks in Taiwan Take More Risk?," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 19(04), pages 1-30, December.
    2. Sunil Mohanty & Hong-Jen Lin, 2021. "Efficiency in China’s Banking Sector: A Comparative Analysis of Pre- and Post-Basel II Eras," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 24(02), pages 1-29, June.
    3. Huang, Tai-Hsin & Hu, Chu-Nan & Chang, Bao-Guang, 2018. "Competition, efficiency, and innovation in Taiwan’s banking industry — An application of copula methods," The Quarterly Review of Economics and Finance, Elsevier, vol. 67(C), pages 362-375.
    4. Arthur Jin Lin & Hai-Yen Chang, 2019. "Business Sustainability Performance Evaluation for Taiwanese Banks—A Hybrid Multiple-Criteria Decision-Making Approach," Sustainability, MDPI, vol. 11(8), pages 1-26, April.
    5. Chen, Xiang & Lu, Ching-Cheng, 2021. "The impact of the macroeconomic factors in the bank efficiency: Evidence from the Chinese city banks," The North American Journal of Economics and Finance, Elsevier, vol. 55(C).
    6. Safiullah, Md & Shamsuddin, Abul, 2019. "Risk-adjusted efficiency and corporate governance: Evidence from Islamic and conventional banks," Journal of Corporate Finance, Elsevier, vol. 55(C), pages 105-140.

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    More about this item

    Keywords

    Stochastic frontier; Cost efficiency;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions

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