Efficiency and Cost Differences Across Countries in a Unified European Banking Market

Abstract

This article seeks to discover the level and spread of bank efficiency in the EU, which in the light of the current and expected increase in competition in Europe is of vital importance for welfare-related public policy toward market structure and conduct. In particular, this study focuses on differences across countries, variously sized banks (reflecting distinct market segments), various banking categories and over time. Two related but diverging dimensions of efficiency are considered: X-efficiency, measuring managerial ability, and cost level differences, reflecting national economic and institutional conditions with respect to supervisory rules, government interference, customer preferences and level of development. On average, cost levels of banks in Luxembourg appear to be 20% below the European average and cost levels in Spain and Greece are 30% higher. The X-inefficiency results are similar, be it that the spread is somewhat smaller. Large banks are twice as inefficient as small banks; apparently, shortcomings in managerial ability reveal themselves more readily in large financial institutions. Inefficiencies in 1997 are nearly 45% lower than in 1990; evidently, over time, deregulation, liberalisation and ongoing financial and monetary integration in the EU have increased competitive pressures and forced European banks to operate more economically. The analysis provides evidence that X-efficiency estimates in singlecountry studies, often found in the literature, can be highly misleading. The large spread in inefficiencies and cost levels indicates that the process of scaling up and rationalisation to be prepared for increased foreign competition, is - for at least part of the banks - has only just begun. (JEL F36, G21, G34)