Prague Economic Papers 2010, 19(2):118-132 | DOI: 10.18267/j.pep.367

Bank Efficiency and Non-Performing Loans: Evidence from Malaysia and Singapore

Mohd Zaini Abd Karim1, Sok-Gee Chan2, Sallahudin Hassan3
1 College of Art and Sciences, Universiti Utara Malaysia (zaini500@uum.edu.my).
2 Institute of China Studies, University of Malaya (sokgee@yahoo.com).
3 College of Art and Sciences, Universiti Utara Malaysia (din636@uum.edu.my).

The objective of this paper is to investigate the relationship between non-performing loans and bank efficiency in Malaysia and Singapore. To achieve the objective, cost efficiency was estimated using the stochastic cost frontier approach assuming normal-gamma efficiency distribution model proposed by Greene (1990). The cost efficiency scores were then used in the second stage Tobit simultaneous equation regression to determine the effect of non-performing loans on bank efficiency. The results indicate that there is no significant difference in cost efficiency between banks in Singapore and Malaysia although banks in Singapore exhibit a higher average cost efficiency score. The Tobit simultaneous equation regression results clearly indicate that higher non-performing loan reduces cost efficiency. Likewise, lower cost efficiency increases non-performing loans. The result also support the hypothesis of bad management proposed by Berger and DeYoung (1992) that poor management in the banking institutions results in bad quality loans, and therefore, escalates the level of non-performing loans.

Keywords: bank efficiency, problem loans, stochastic cost frontier, tobit regression
JEL classification: G21

Published: January 1, 2010  Show citation

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Karim, M.Z.A., Chan, S., & Hassan, S. (2010). Bank Efficiency and Non-Performing Loans: Evidence from Malaysia and Singapore. Prague Economic Papers19(2), 118-132. doi: 10.18267/j.pep.367
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