Frontier Estimation and Firm-Specific Inefficiency Measures in the Presence of Heteroscedasticity.

The purpose of this paper is to illustrate a straightforward and useful method for addressing the problem of heteroscedasticity in the estmation of frontiers. A heteroscedastic cost frontier model is developed and estimated using bank cost data similar to that used by G. D. Ferrier and C. A. K. Lovell (1990). The authors' results show dramatic changes in the estimated cost frontier and in the inefficieny measures when accounting for heteroscedasticity in the estimation process. The authors find that the rankings of firms by their inefficiency measures is affected markedly by the correction for heteroscedastcity but not by alternative distributional assumptions about the one-sided error term.