Market power, efficiency and bank profitability: evidence from Ghana

Abstract

This study examines the determinants of bank profitability in Ghana within the market power, relative market power and efficient structure frameworks. Using annual data on 26 Ghanaian banks from 2003 to 2011, we employ the Herfindahl Index and concentration ratio as our proxies for market power hypothesis while efficiency scores from the data envelopment analysis is employed as a proxy for the efficient structure hypothesis. The system generalized method of moment is employed to estimate a panel data model with return on assets, return on equity and net interest margin as our proxies for bank profitability. The results of the empirical estimation reject both the market power and relative market power hypotheses in the Ghanaian banking industry. While technical efficiency is found to have a positive relationship with profitability to support the efficient structure hypothesis, a negative relationship between scale efficiency and profitability is reflected by the inability of banks to operate at the optimal scale of operations. We also document evidence on the low persistence of profit which suggests a competitive banking industry. Implications for industry regulation are discussed.