Abstract
Background: The banking sector plays an important role in economic activity: it mobilises savings and channels them to productive sectors thus encouraging the efficient allocation of resources. The competitive nature of the environment under which the banking sector operates is of paramount importance.Aim: The main aim of this study was to investigate the relationship between competition, efficiency and soundness in the South African banking sector.Setting: The setting for this study was the South African banking sector.Methods: We used a data set of 17 local and international banks for the period 2004–2015 and stochastic frontier models to analyse efficiency.Results: Results show that the impact of competition on efficiency depended on the measure of competition used. When using the Lerner index there was a negative effect of competition on efficiency while the opposite was true when using the theoretically robust Boone indicator.Conclusion: In the case of bank soundness, competition using the Boone indicator is negatively related to the Z score, implying that competition enhances bank soundness and these results supported the prudent and efficient management hypothesis.
Highlights
Competition is the main driver of strong and effective markets, encourages firms to innovate, enhances productivity, and results in the efficient allocation of resources
The Lerner index suggests that there is some level of competitiveness in the banking sector but the Boone indicator suggests that the level of competitiveness is falling, the changes are marginal
Statistics from Global Financial Development (2017) show that using the Lerner index suggests that there is some level of competitiveness in the banking sector but the Boone indicator suggests that the level of competitiveness is falling
Summary
Competition is the main driver of strong and effective markets, encourages firms to innovate, enhances productivity, and results in the efficient allocation of resources. A competitive environment ensures that companies compete fairly and puts businesses under constant pressure to offer the best possible range of goods at the best possible prices. This makes competition the essential drive of productivity growth in any economy. The Structure Conduct Performance (SCP) paradigm, proposed by Bain (1951), argues that markets dominated by a few large firms are less competitive than markets that are lowly concentrated. This implies that the higher the level of concentration in a market, the lower the level of competition. The competitive nature of the environment under which the banking sector operates is of paramount importance
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