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Empirical Analysis of Production Economics: Applications to Banking

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Handbook of Production Economics

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Abstract

Volume II of the Handbook of Production Economics provides surveys of empirical applications of the neoclassical production economics discussed in Volume I. This chapter examines empirical applications in banking that now enter what we can categorize as accumulated, accepted knowledge or wisdom. To begin, we consider how to measure output. Two basic approaches exist – the production and intermediation specifications. The treatment of deposits differentiates these two specifications, whereby the production approach takes deposits as an output and the intermediation approach takes deposits as an input. Then, this chapter proceeds to discuss various issues in bank production – bank productivity growth, bank and banking industry profitability, economies of scale and scope in banking, and bank efficiency. Bank efficiency includes efficiency as measured by the production function, the cost function, the revenue function, the profit function, and the efficient frontier between expected return and risk. The chapter concludes with an analysis of predicting problem banks and/or bank failures.

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Notes

  1. 1.

    Färe, et al. [15] provide a comprehensive survey of the theory and development of the Malmquist productivity index.

  2. 2.

    Some papers use other performance measures besides bank profit such as net interest margin to total assets, noninterest expenses to assets, nonperforming loans to total loans, or loan losses to total loans (e.g., [25,26,27]).

  3. 3.

    Kane [34] provides an excellent historical account of the deregulatory movements in the US banking sector.

  4. 4.

    Existing work examines the effects of deregulation on various banking issues. For example, how did deregulation affect new charters, failures, and mergers [35,36,37] as well as bank performance [37,38,39,40,41]?

  5. 5.

    As illustrated below, the covariance effect emerges because of the decomposition method. The Bennet [45] decomposition method causes the covariance effect to disappear.

  6. 6.

    This discussion possesses an analogy to the price index literature. The Laspeyres [47] price index uses in the numerator the sum of the current prices times base-period quantities, and in the denominator the sum of base prices times base-period quantities. The Paasche [48] price index uses in the numerator the sum of the current prices times current-period quantities, and in the denominator the sum of base prices times current-period quantities. The Fisher [49] ideal price index, then, forms a geometric mean of the Laspeyres and Paasche indices. Pigou [50] also proposed the ideal price index. Bennet [45] specifies the analogy to the Fisher ideal price index for changes in revenue – the sum of prices times quantities. Diewert [51] provides an extensive discussion of the Bennet index, showing that the Bennet index equals the arithmetic average of the Laspeyres and Paasche difference index analogies.

  7. 7.

    Griliches and Regev [52] employ this decomposition method in their study of firm productivity in Israeli industry. Scarpetta et al. [53] briefly describe the Griliches and Regev [52] and Haltiwanger [44] methods of decomposition, noting how they differ. Jeon and Miller [54], however, link the differences to the base-year weighting issue. Finally, Bartelsman et al. [55] note that the covariance term disappears for their decomposition. Balk [56] also provides an extensive review of the Bennet [45] decomposition in terms of productivity changes.

  8. 8.

    Stiroh and Strahan [57], using a different methodology, reach a similar conclusion.

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Authors and Affiliations

  1. Department of Economics, Lee Business School, University of Nevada, Las Vegas, Las Vegas, NV, USA

    Stephen M. Miller

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  1. Department of Economics, University of Connecticut, Storrs, CT, USA

    Subhash C. Ray

  2. Department of Agricultural and Resource Economics, University of Maryland, College Park, MD, USA

    Robert G. Chambers

  3. Department of Economics, Binghamton University, Binghamton, NY, USA

    Subal C. Kumbhakar

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Miller, S.M. (2022). Empirical Analysis of Production Economics: Applications to Banking. In: Ray, S.C., Chambers, R.G., Kumbhakar, S.C. (eds) Handbook of Production Economics. Springer, Singapore. https://doi.org/10.1007/978-981-10-3455-8_29

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