Measuring Cost Efficiency and Its Determinants in Ethiopian Commercial Banks: A Stochastic Frontier Analysis

Abstract

The study analysed the measurement of cost efficiency and its determinants in Ethiopian Commercial Banks by using a balanced sample of 14 private commercial banks over the period 2010-2020 by employing stochastic frontier approach and Tobit model. The study found that banks’ efficiency level has witnessed a wide variation across various bank groupings and fluctuated over the study period. The study also found that, the cost efficiency of the state-owned commercial banks and private commercial banks over the study period is 0.75 and 0.83 respectively. The findings show that banks specific factors of return on equity, and intermediation ratio have a statistically significant and positive effect on the cost-efficiency of commercial banks in Ethiopia. However, branch network has a statistically significant and negative effect on the bank’s cost-efficiency. Nevertheless, bank size, return on asset, capital adequacy ratio, real gross domestic products and age of banks are not statistically significant. Thus, commercial banks can improve their cost efficiency by way of improving their return on equity, and intermediation ratio. Commercial banks should minimize the use of input resources while maintaining the same level of output. By improving the handling of operating expenses, general expense, interest expense, and boosting loan providing they can improve their cost-efficiency.