Financial Reforms and Technical Efficiency in Indian Commercial Banking: A Generalized Stochastic Frontier Analysis

Abstract

In this study we estimate technical efficiency of Indian commercial banks from 1989- 2009 using a multiple-output generalized stochastic production frontier, and analyze the effects of financial sector reforms on measured efficiency. This generalized technique estimates technical efficiency in the presence of multiple outputs, filling a gap in the existing literature. Our results show that Indian commercial banks were operating with 64% efficiency on average during the sample period and that efficiency declined in both public and private banks during most parts of the post-reform period. The capital adequacy ratios negatively influenced efficiency while the number of branches had no significant effect on bank efficiency. Financial sector reforms, however, have had mixed results on technical efficiency. The initial phase of reform had positive impact on technical efficiency while the later phases adversely affected technical efficiency of commercial banks. Throughout the sample period, public sector banks show higher efficiency levels compared to private sector and foreign banks.