New evidence on banking efficiency in Europe

This paper explores the issue of banking efficiency in Europe by applying the Fourier functional form and the stochastic cost frontier approach in calculating inefficiencies for a large sample of European banks between 1998 and 2004. This paper provides recent evidence on the degree of efficiency and economic viability of various sizes of banking institutions and tries to contribute a few policy recommendations to the existing literature. The findings suggest that the largest sized banks are generally the least efficient banks and the smallest sized banks are the most efficient. Inefficiencies range between 20% and 25% across different European banking samples. The strongest economies of scale are displayed by Danish, Italian and Spanish banks (scale economies range between 7% and 10%). The impact of technical change in reducing bank costs (ranging from 2.3% to 5.6% per annum) appears to be systematically increasing with bank size. Overall, the results indicate that the largest banks in our sample enjoy greater benefits from technical progress, although they do not have scale economy and efficiency advantages over smaller banks.