A new method to decompose profit efficiency: an application to US commercial banks
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We propose a new method to estimate profit efficiency which makes explicit how revenue and cost efficiencies contribute to overall profit efficiency. Using data from US commercial banks from 2001 to 2010, we find that losses due to profit inefficiency represent about 3.5% of banks’ equity of which 1% is due to revenue inefficiency and 2.4% to cost inefficiency. Revenue efficiency changes affect more overall profit efficiency than equivalent cost efficiency changes. In contrast to previous studies, but in line with economic intuition, we find that while revenue and cost efficiencies tend to be negatively correlated, both correlate positively with profit efficiency.
KeywordsBanking Profit efficiency Revenue efficiency Cost efficiency Nonstandard profit function Stochastic frontier
JEL ClassificationD24 G21 L13
Restrepo-Tobón acknowledges financial support from the Colombian Fulbright Commission, the Colombian Administrative Department of Science, Technology and Innovation (Colciencias), and Universidad EAFIT. The authors thank three anonymous reviewers for their insightful comments.
Compliance with ethical standards
Conflict of interest
The authors declare that they have no competing interests.
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