Technical Change in European Banking

Abstract

This chapter examines technical change in European banking by applying the Fourier Flexible functional form and stochastic cost frontier methodologies using 13 603 bank observations across 15 EU countries between 1988 and 1995. The results show that technical progress has had a similar influence across European banking markets, making a positive contribution to costs of around 3 per cent every year. Large banks appear to benefit more from technical change than their smaller competitors. We also break down technical progress into its three main cornponents: pure, scale and (input) non-neutral effects. This shows that pure technical change is the main contributor to overall technical progress for small banks (assets size less than $1 billion) and larger banks appear to gain more from technical advances which alter the optimal input mix. Technical change also becomes increasingly scale biased as banks become larger. This implies that technological change increases the minimum efficient bank size for larger banks to a greater extent than for their smaller competitors. Given that technical change is nonneutral with respect to optimal bank size and input-mix, we tentatively suggest that the formation of larger banks may be in the public interest.