Stochastic Cost Research Articles

Which Governance Mechanisms Promote Efficiency in Reaching Poor Clients? Evidence from Rated Microfinance Institutions

AbstractThis paper evaluates the effectiveness of several governance mechanisms on microfinance institutions' (MFI) performance. We first define performance as efficiency in reaching many poor clients. Following the literature on efficiency in banks, we estimate a stochastic cost frontier and measure output by the number of clients. Therefore, we capture the cost minimisation goal and the goal of serving many poor clients, both of which are pursued by MFIs. We next explore the impact of measurable governance mechanisms on the individual efficiency coefficients. The results show that efficiency increases with a board size of up to nine members and decreases after that. MFIs in which the CEO chairs the board and those with a larger proportion of insiders are less efficient. The evidence also suggests that donors' presence on the board is not beneficial. We do not find consistent evidence for the effect of competition, and we find weak evidence that MFIs in countries with mature regulatory environments reach fewer clients, while MFIs regulated by an independent banking authority are more efficient.

Joint determination of the choice of growing season and economic efficiency of maize in Bangladesh

The paper jointly evaluates the determinants of the choice of maize growing season (winter vs. summer maize) and economic efficiency of individual producers in Bangladesh using a sample selection framework applied to stochastic frontier models. Model diagnostics reveal that sample selection bias is significant, thereby justifying the use of this approach. Probit results reveal that the probability to choose winter maize are influenced positively by gross return, subsistence pressure and soil suitability, whereas extension contact influences choice negatively. Stochastic cost frontier results reveal that a rise in input prices and output level increases production cost as expected. Among the variables representing the production environment, soil suitability and stability of mean temperature reduce cost, whereas precipitation increases cost. The mean level of economic efficiency is estimated at 0.91, implying that scope still exists to reduce cost further by jointly eliminating technical and allocative inefficiency. Policy implications include measures to improve soil suitability, development of temperature-resistant varieties and price policies to check input price rise while boosting maize price, which will synergistically increase adoption rate as well as profitability of winter maize cultivation in Bangladesh.

Cost Optimization of DNAPL Remediation at Dover Air Force Base Site

This study investigates stochastic optimization of dense nonaqueous phase liquid (DNAPL) remediation design at Dover Air Force Base Area 5 using emulsified vegetable oil (EVO) injection. The Stochastic Cost Optimization Toolkit (SCOToolkit) is used for the study, which couples semianalytical DNAPL source depletion and transport models with parameter estimation, error propagation, and stochastic optimization modules that can consider multiple sources and remediation strategies. Model parameters are calibrated to field data conditions on prior estimates of parameters and their uncertainty. Monte Carlo simulations are then performed to identify optimal remediation decisions that minimize the expected net present value (NPV) cleanup cost while maintaining concentrations at compliance wells under the maximum contaminant level (MCL). The results show that annual operating costs could be reduced by approximately 50% by implementing the identified optimal remediation strategy. We also show that recalibration and reoptimization after 50 years using additional monitoring data could lead to a further 60% reduction in annual operating cost increases the reliability of the proposed remediation actions.

The Sustainability of Empire in Global Perspective: The Role of International Trade Patterns

European empires had two key economic aspects: the extraction of colonial wealth by colonizers, and the relevance of trade for the colonial economies. I build a simple model of decolonization that puts these two elements at centre stage. By controlling policy in the colony, the mother country can appropriate part of her wealth; the colony, however, can stage a successful revolution at a stochastic cost. I incorporate this mechanism in a three-country, two-good trade model where countries (the mother country, the colony and a third independent country) can decide whether to trade with each other, and revolution is expected to generate trade frictions between the mother country and the rebel colony. Thus, the attractiveness of revolution and the sustainability of empire come to depend on the capacity of the rebel colony to access international markets, which, in turn, depends on the economic fundamentals that shape the pattern of trade as well as the optimal trade policy of the third country. I present detailed historical evidence showing how to use this model to put a few important cases of decolonization in global perspective. My results have important implications for the debate on the economic legacy of colonial empires.

Some Remarks on Application of Sandwich Methods in the Minimum Cost Flow Problem

In this paper, two new sandwich algorithms for the convex curve approximation are introduced. The proofs of the linear convergence property of the first method and the quadratic convergence property of the second method are given. The methods are applied to approximate the efficient frontier of the stochastic minimum cost flow problem with the moment bicriterion. Two numerical examples including the comparison of the proposed algorithms with two other literature derivative free methods are given.

Reliability evaluation of network flows with stochastic capacity and cost constraint

This paper addresses flow networks whose arcs have finite and independent random capacities. The reliability of such a system, that is the probability that d units of flow can be transmitted from the source node to the sink node with total cost at most equal to c , can be computed in terms of Minimal Path Vectors, named as ( d , c )-MPs. In this paper, first, a method for computing the upper and lower bounds of the capacity cost of the system is proposed. The presented method shows how to compute a ( d , c )-MP with the minimum capacity cost. Subsequently, we develop an algorithm, based on the computed bounds, to generate all ( d , c )-MPs and then, the system reliability is calculated in terms of such ( d , c )-MPs. The computational complexity of the proposed algorithm is also presented. At the end the solution procedure is illustrated by an example.

An Efficiency Analysis for Turkish Banking Sector

Banking sector, as in many countries, has the largest share in the financial market in Turkey. Increasing competition conditions has forced banks to work more effectively, especially after the liberalization process in the 1980’s. Within this framework, the aim of this dissertation is to investigate the cost and profit efficiency of the commercial banks operating in Turkey. The dissertation is organized as follows. Firstly, the concept of efficiency is clarified and then the efficiency measurement methods are introduced. Secondly, the historical development of the Turkish banking sector, to related years, are presented. Finally, in the framework of the intermediation approach, panel data belonging to 32 commercial banks operating between the years 2003–2007 is used and the efficiency scores of banks are calculated by estimating the stochastic translog cost and profit functions. The main reason for choosing this period is the studies about this period are not enough and external shocks like crises didn’t occur after the transition to inflation accounting since 2003. As a result of the study, it is evident that the small-scale and foreign banks in the Turkish banking sector operate more efficient than other banks in terms of both profit and cost. Especially, the low efficiency level of state banks is associated with the size of banks and managerial skills.

Does Capitalization Enhance Efficient Risk Undertaking? A Comparison between Islamic and Conventional Banks

This paper investigates the relative impact of capitalization on risk-taking efficiency in Islamic and conventional banks. In particular, we test whether changes occurring to the capital structure of different types of banks unevenly affect their behavior in terms of risk-taking efficiency. Results, obtained both by regressions and a stochastic cost frontier analysis in the period 2000-2011 show that higher capitalized Islamic banks are associated to less risky policies in terms of their assets structure. In particular, they exhibit higher liquidity standards compared to other – less capitalized – Islamic banks. This corresponds to lower non-performing loans, leading to weak delayed positive effects on profitability and no substantial impact on efficiency. On the other hand, more capitalized conventional banks tend to shift from more traditional lending activities to investment in other assets, including off balance sheet items. Such policy provides higher profitability and profit efficiency although raising impaired loans. The analysis has important implications when considering capital adequacy as a regulatory tool for managing the risk of Islamic banks’ activity.

Historically black college and university operating cost efficiencies: stochastic cost estimates and comparisons to predominately white institutions

This paper compares operating cost efficiencies of public historically black colleges and universities to those of predominately white institutions in the USA. Panel data spans four academic years, 2005 to 2006 through 2008 to 2009. Cost frontiers are estimated with an inefficiency component that includes institutional specific environmental factors. Results indicate that historically black institutions have some cost advantages over their predominately white counterparts, but on average suffer higher operating inefficiencies. Comparisons are made as to the extent to which student retention, faculty tenure, and state government funding contribute to cost inefficiencies. Inefficiency growth among black universities appears to have outstripped those of white institutions through 2007 to 2008. Yet, in 2008 to 2009 historically black universities made substantial efficiency improvements while predominately white institutions experienced a high inefficiency growth. Given the historically black contributions to educational and economic development, the inquiry and results should be of wide managerial and public policy interest.

Incorporating water purification in efficiency evaluation: evidence from Japanese water utilities

This study attempts to show that the inclusion of water purification efforts should be another crucial dimension in the efficiency measurement. I use a Stochastic Cost Frontier (SCF) to estimate the technical efficiency of 392 Japanese water utilities in 2005. The results show that a water purification effort may increase cost, and that its inclusion in efficiency evaluation leads to some specific changes in efficiency score and the ranking of water utilities. Furthermore, this incorporation enables the impact of different qualities of source water on efficiency to be controlled. The result suggests that to encourage water purification efforts, it is crucial to incorporate purification in benchmarking.

Rates of return to public agricultural research in 48 US states

The internal rate of return to public investment in agricultural R&D is estimated for each of the continental US states. Theoretically, our contribution provides a way of obtaining the returns to a local public good using Rothbart’s concept of virtual prices. Empirically, a stochastic cost function that includes own knowledge capital stock as well as spillover capital stock variables is estimated. Stochastic spatial dependency among states generated by knowledge spillovers is used to define the ‘appropriate’ jurisdictions. We estimate an average own-state rate of 17% and a social rate of 29% that compare well to the 9 and 12% average returns of the S&P500 and NASDAQ composite indexes during the same period.

Multiobjective invasive weed optimization: Application to analysis of Pareto improvement models in electricity markets

This paper presents a proposal for multiobjective Invasive Weed Optimization (IWO) based on nondominated sorting of the solutions. IWO is an ecologically inspired stochastic optimization algorithm which has shown successful results for global optimization. In the present work, performance of the proposed nondominated sorting IWO (NSIWO) algorithm is evaluated through a number of well-known benchmarks for multiobjective optimization. The simulation results of the test problems show that this algorithm is comparable with other multiobjective evolutionary algorithms and is also capable of finding better spread of solutions in some cases. Next, the proposed algorithm is employed to study the Pareto improvement model in two complex electricity markets. First, the Pareto improvement solution set is obtained for a three-player oligopolistic electricity market with a nonlinear demand function. Then, the IEEE 30-bus power system with transmission constraints is considered, and the Pareto improvement solutions are found for the model with deterministic cost functions. In addition, NSIWO algorithm is used to analyze this system with stochastic cost data in a risk management problem which maximizes the expected total profit but minimizes the profit risk in the market.

Are Public Universities of Bangladesh Cost Efficient? An Empirical Evidence

This article empirically estimates a stochastic cost function and thereby estimates local economies of scale and cost-efficiency measures of the public universities in Bangladesh. A flexible quadratic cost function, an unbalanced panel dataset and the maximum likelihood estimation technique have been used in the study. The empirical results show that though the public universities have very high relative efficiency measures, they are scale inefficient.

Managerial performance and cost efficiency of Japanese local public hospitals: A latent class stochastic frontier model

The paper explores the link between managerial performance and cost efficiency of 617 Japanese general local public hospitals in 1999-2007. Treating managerial performance as unobservable heterogeneity, the paper employs a panel data stochastic cost frontier model with latent classes. Financial parameters associated with better managerial performance are found to be positively significant in explaining the probability of belonging to the more efficient latent class. The analysis of latent class membership was consistent with the conjecture that unobservable technological heterogeneity reflected in the existence of the latent classes is related to managerial performance. The findings may support the cause for raising efficiency of Japanese local public hospitals by enhancing the quality of management.

A stochastic model for joint spare parts inventory and planned maintenance optimisation

Spare parts demands are usually generated by the need of maintenance either preventively or at failures. These demands are difficult to predict based on historical data of past spare parts usages, and therefore, the optimal inventory control policy may be also difficult to obtain. However, it is well known that maintenance costs are related to the availability of spare parts and the penalty cost of unavailable spare parts consists of usually the cost of, for example, extended downtime for waiting the spare parts and the emergency expedition cost for acquiring the spare parts. On the other hand, proper planned maintenance intervention can reduce the number of failures and associated costs but its performance also depends on the availability of spare parts. This paper presents the joint optimisation for both the inventory control of the spare parts and the Preventive Maintenance (PM) inspection interval. The decision variables are the order interval, PM interval and order quantity. Because of the random nature of plant failures, stochastic cost models for spare parts inventory and maintenance are derived and an enumeration algorithm with stochastic dynamic programming is employed for finding the joint optimal solutions over a finite time horizon. The delay-time concept developed for inspection modelling is used to construct the probabilities of the number of failures and the number of the defective items identified at a PM epoch, which has not been used in this type of problems before. The inventory model follows a periodic review policy but with the demand governed by the need for spare parts due to maintenance. We demonstrate the developed model using a numerical example.

The relative efficiency of charter schools: A cost frontier approach

Charters represent an expansion of public school choice, offering free, publicly funded educational alternatives to traditional public schools. One relatively unexplored research question concerning charter schools asks whether charter schools are more efficient suppliers of educational services than are traditional public schools. The potential relative efficiency advantage of charters vis-a-vis traditional publics is one of the mechanisms that supports the hypotheses that charters could improve performance for their students while using the same or fewer resources, and that the systemic effect of charters could lead to improved outcomes for traditional public students without requiring an increase in education sector resources.In this paper, we provide evidence as to the cost efficiency of charter schools relative to traditional public schools, and explore the extent to which those differences are attributable to differences in hiring and compensation practices, or to differences in the length of time a campus has been operating. We generate estimates of efficiency using a stochastic cost frontier approach. We estimate a translog stochastic cost frontier model using panel data for charter campuses and traditional public campuses in Texas over the five-year period 2005–2009.Our main findings suggest that charter schools are able to produce educational outcomes at lower cost than traditional public schools—probably because they face fewer regulations—but are not systematically more efficient relative to their frontier than are traditional public schools.

Performance of European insurance firms in the single insurance market

The deregulation and liberalization process towards establishing a single European financial market has some important implications for the insurance industries. Due to the increased competition, insurance firms have to adjust their costs and operate efficiently to survive in this new environment. This paper attempts to analyze the cost efficiency and scale economies in the single European insurance market. Considering the ongoing enlargement process of the EU, our sample includes the insurance industries of the major EU‐15, four new members and a candidate country, Turkey, over the period 1995–2005. We use the firm‐level financial data and estimate a stochastic cost frontier that controls for differences in environmental conditions. All insurance systems display significant levels of cost inefficiency. The results further indicate that there are significant economies of scale, particularly for small‐ and medium‐size insurance firms. Finally, the analyses suggest similar results for major EU countries, new members and the candidate.

Stochastic Semi-Nonparametric Efficiency Analysis of Electricity Distribution Networks: Application of the StoNED Method in the Finnish Regulatory Model

Electricity distribution network is a prime example of a natural local monopoly. In many countries, electricity distribution is regulated by the government. In Finland, the regulator estimates the efficient cost frontier using the data envelopment analysis (DEA) and stochastic frontier analysis (SFA) methods. This paper reports the main results of the research project commissioned by the Finnish regulator for further development of the efficiency estimation in their regulatory model. The key objectives of the project were to integrate a stochastic SFA-style noise term to the nonparametric, axiomatic DEA-style cost frontier, and take into account the heterogeneity of firms and their operating environments. To estimate the resulting stochastic semi-parametric cost frontier model, a new method called stochastic nonparametric envelopment of data (StoNED) is proposed. Based on the insights obtained in the empirical analysis using real data of the regulated networks, the Finnish regulator is replacing the currently used DEA and SFA methods by the StoNED method.

Consolidation in the European banking industry: how effective is it?

The European banking industry is becoming increasingly consolidated as banks engage in domestic and cross-border merger and acquisition (M&A) activities. Due to cultural differences in cross-border consolidations, the benefits of domestic and cross-border consolidations are likely to differ. This paper examines the effectiveness of merger processes, with a detailed analysis of both domestic and cross-border consolidations in Europe from 1998 to 2004. Effectiveness is measured via several criteria: improvement in costs, return on assets (ROA), and return on equity (ROE). To analyze potential cost efficiency improvement, we use a stochastic cost frontier approach. The same methodology is used for ROA and ROE to estimate efficiency in profitability. Finally, considering cross-border mergers as a form of entry, we carry out an analysis of the entry effect in response to the performance and profitability of the incumbent market participants. Results show that mergers in the European banking industry have been effective. Although domestic M&As are more common than cross-border M&As, banks involved in cross-border M&As are more efficient. Moreover, cross-border merged banks seem to outperform incumbent banks.

On the investment in a reliability improvement program for warranted second-hand items

A reliability improvement program (such as an upgrade action) can be seen as an investment by a dealer to restore a second-hand product to a better operational state. Due to the nature of the actions performed, the item's reliability at the end of this program is usually uncertain. This article develops a stochastic cost–benefit model for investment made in reliability improvement programs for second-hand items sold with failure-free warranty. Depending on the product's lifetime modeling approach, two modifications of the model are considered and are solved for the optimal improvement level. A real case application of the model is presented to validate the proposed approach.