The “quiet life” hypothesis : the efficiency cost of market power in the Maltese banking sector

Abstract

The main aim of this study is to analyse the relationship between the efficiency cost and market power in the Maltese banking industry over the period of 2000 – 2014. The banks included in the research study relate to the ‘core’ local banks as defined by the Central Bank of Malta. The latter include APS Bank Ltd., Banif Bank (Malta) plc, Bank of Valletta plc, HSBC Bank Malta plc and Lombard Bank Malta plc. By employing audited financial data of these banks, the level of market power is measured by the Herfindahl Hirschman Index, while bank efficiency is estimated by a specific efficiency ratio as indicated by Fernandez de Guevara, Maudos and Perez (2005). In addition, this dissertation estimates the efficiency cost of banks generated from market concentration as well as the social loss from mispricing measured by the Harberger’s welfare loss triangle. The obtained results indicate that there is a negative insignificant link between the level of bank efficiency and market concentration in the local banking industry and thus, the latter allow us to reject the so-called quiet life hypothesis. Also, the average efficiency cost derived from high market concentration amounted to 9% of total operating costs of banks. Moreover, the total welfare loss, excluding fees related to bank loans, amounted to 2%, while welfare loss including fees amounted to 2.6% respectively. Therefore, in summary, results concluded that for the study period, the estimated efficiency cost of concentration is higher than the total welfare loss generated by local banking institutions.