The Cost-Efficiency and Productivity Growth of Euro Area Banks

Thursday, June 6, 12.30 pm to 2.00 pm

Mr. Ivan Huljak, Senior Advisor, Croatian National Bank
Mr. Reiner Martin, Lead Economist, Joint Vienna Institute

The efficiency of banks is highly relevant for financial stability, in particular in a low-interest rate environment, which implies additional challenges for banks. The literature has traditionally used accounting indicators to assess efficiency. This paper uses an alternative approach, focusing on those aspects of efficiency that banks can effectively control. More specifically, an industrial organization approach is used to compute the different components of total factor productivity (TFP) growth across banking sectors in 17 euro area countries over the period 2006 to 2017. In addition, the authors disentangle permanent and time-varying inefficiency in the banking sector. They observe that the average cost efficiency in the euro area banking sector amounted to around 84% over the 2006 to 2017 period and that the total factor productivity growth for the median euro area bank decreased from around 2% in 2007 to around 1% in 2017. Given the need to boost productivity and enhance profitability in the euro area banking sector, this suggests that banks’ efforts in areas such as rationalization of branches, digitalization of business processes and possibly mergers and acquisitions should be intensified.

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