Efficiency in Arabian banking
This thesis investigates the efficiency levels of the Jordanian, Egyptian, Saudi Arabian and Bahraini banking systems. The empirical evidence on bank efficiency in these markets aims to highlight the features associated with the role of economic and financial reforms that have taken place in these countries over the past decade. Our sample comprises information on 82 banks operating in Jordan, Egypt, Saudi Arabia and Bahrain over the 1992-2000 period. We use the stochastic frontier and Fourier-flexible form to estimate cost and profit efficiency levels in these banking systems. In addition, we also estimate the scale elasticity and scale efficiency levels in the banking sectors under study. The sample size represents 78% of the banking sector of Jordan, just under 90% of the Egyptian banking sector, 63% of that of Saudi Arabia and over 50% of the banking sector of Bahrain. To derive efficiency levels, we employ three distinct economic efficiency concepts (cost, standard profit and alternative profit efficiencies), using a number of different measurement methods (including the stochastic frontier approach, specification of the Fourier-flexible functional form versus the translog form, and inclusion of a banks' asset quality and financial capital in a number of different ways) to a single data set. In choosing the 'preferred' cost and profit models to estimate efficiency levels, we follow various contemporary methodologies that use a variety of hypotheses tests to arrive at preferred model specifications. Given cost efficiency, the preferred model is the Fourier-truncated form that excludes the control variables (capital adequacy, asset quality and the time trend) but includes all the environmental variables. Given the standard and alternative profit function, the preferred model is the Fourier-flexible that includes the control as well as the environmental variables. The technical cost efficiency averaged around 95%, based on our preferred model, over the 1992-2000 period. Standard and alternative profit functions estimates reveal technical efficiency on average around 66% and 58% respectively. Islamic banks are found to be the most cost and profit efficient while investment banks are the least (cost and profit efficient). This result perhaps reveals the fact that the cost of funds for Islamic banks is relatively cheaper than the cost of funds for other financial institutions. Large banks, in assets terms, appear to be relatively more cost and profit efficient. This possibly signals the ability of large banks to utilise more efficient technology with less cost, the ability of these banks to introduce more specialised staff for the most profitable activities and the ability of these banks to provide (presumably) better quality outputs for which they can charge higher prices. Geographically, Bahrain is the most cost and profit efficient while Jordan is the least (cost and profit efficient). The scale efficiency results reveal that, on average, banks in the countries under study are around 65% scale efficient in terms of cost. In terms of profit efficiency, estimates are around 60% for both standard and alternative profit function but with rather dissimilar movements overtime for scale efficiency scores using both sets of measures. Both cost and profit functions report Islamic and commercial banks as the most scale efficient types of banks. Based on asset size, the results of the alternative profit function estimates, in particular, indicate that large banks are more scale efficient than small banks. Geographically, Saudi Arabian and Egyptian banks appear to be the most cost and profit scale efficient. The derived efficiency levels for the banks operating in the countries under study, however, provide little evidence to suggest that the economic and financial reforms undertaken in Jordan, Egypt, Saudi Arabia and Bahrain over the last decade have had a noticeable impact on improvement in banking sector efficiency. The main policy recommendation from this study, therefore, is that these countries need to continue the reform process in order to enhance financial sector performance.