Measuring Technical Efficiency and Productivity Change in the Nigerian Banking Sector: A Comparison of Non‐parametric and Parametric Techniques

Abstract

AbstractThis study estimates technical efficiency and total factor productivity change in the Nigerian banking sector for the period 2005–14, which encapsulates the post‐consolidation era and subsequent regime of banking reforms aimed at stabilizing the sector from the effects of financial crisis. The study applies both non‐parametric Data Envelopment Analysis (DEA) and parametric Stochastic Frontier Approach (SFA), using the Malmquist Productivity Index, and error component production function respectively, to ascertain if any significant variation in efficiency exists on a sample of 12 banks covering over 80 percent of total bank assets in Nigeria. The theoretical intermediation approach is applied for selection of input and output variables. The input variables considered are total deposits, total equity and operating expenses including staff costs, and output variables are loans and operating income, which accounts for off‐balance‐sheet items such as non‐interest or fee‐based income. Findings reveal that the mean technical efficiency under SFA and total factor productivity change in DEA decreases as bank output moves toward non‐interest or fee‐based income. Although the magnitude differs, both SFA and DEA follow a similar direction for technical efficiency and total factor productivity change. Study implications suggest that policymakers should be concerned about arbitrariness in bank's ability to earn fee‐based income, which portends high cost of banking services in the long run.