Technical and allocative efficiency of commercial banks in Ethiopia

This paper investigated the technical and allocative efficiency of commercial banks in Ethiopia. The analysis was based on unbalanced panel data of 19 banks over the period of 1990-2022. The study has applied shadow pricing approach to estimate and decompose the overall cost inefficiency into technical and allocative components. Findings reveal that publicly owned commercial bank is technically more efficient than privately owned commercial banks. Evidence also found that, on average, small and recently established privately owned banks are technically more efficient than other large private owned banks in Ethiopia. All banks are found allocative inefficiency due to over-utilization of loanable funds and physical capital relative to labor input. The overall result also shows that greater cost saving in public owned commercial bank in Ethiopia could be achieved by optimizing input use, while such cost advantage in private owned banks could be attained by improving managerial efficiency. In developing countries like Ethiopia where secondary financial markets are tiny or non-existent, promoting safe and robust commercial banking system is an important prerequisite for economic growth and development. The safety and soundness of the banking system are inextricably linked to economic efficiency of individual commercial banks. This study estimate and decompose cost efficiency of Ethiopian commercial banks into technical and allocative efficiencies (inefficiencies). The results of the study provide a valuable information to the shareholders, government and regulators in designing policies that improve the profitability and competitiveness of commercial banks.