Role of Bank Regulation On Bank Performance: Evidence From Asia-Pacific Commercial Banks

Journal of
Risk and Financial

Management
Article
Role of Bank Regulation on Bank Performance:
Evidence from Asia-Pacific Commercial Banks
Zhenni Yang *, Christopher Gan and Zhaohua Li
Department of Financial and Business Systems, Faculty of Agribusiness and Commerce, Lincoln University,
Christchurch 7647, New Zealand
* Correspondence: [email protected]; Tel.: +64-21-183-4896

Received: 30 June 2019; Accepted: 3 August 2019; Published: 7 August 2019
Abstract: The banking industry is an essential financial intermediary, thus the efficient operation of
banks is vital for economic development and social welfare. However, the 2008 global financial crisis
triggered a reconsideration of the banking systems, as well as the role of government intervention.
The literature has paid little attention to the banking industry in the Asia-Pacific region in the
context of bank efficiency. This study employs double bootstrap data envelopment analysis to
measure bank efficiency and examine the relationship between regulation, supervision, and state
ownership in commercial banks in the Asia-Pacific region for the period 2005 to 2014. Our results
indicate that excluding off-balance sheet activities in efficiency estimations lead to underestimating of
the pure technical efficiency, while overestimating the scale efficiency of banks in the Asia-Pacific
region. Cross-country comparisons reveal that Australian banks exhibit the highest levels of technical
efficiency, while Indonesian banks exhibit the lowest average. Our bootstrap regression results
suggest that bank regulation and supervision are positively related to bank technical efficiency,
while state ownership is not significantly related to bank efficiency. Furthermore, our findings show
that tighter regulation and supervision are significantly related to higher efficiency for small and
large-sized banks.
Keywords: banks; efficiency; data envelopment analysis; Asia-Pacific; regulations
1. Introduction
Banking industries, as primary financial intermediaries, provides liquidity and payment services,
transforms deposits into loans, and manages and monitors investment projects (Freixas and Rochet
2008). The efficient operation of banks not only enhances economic development, but also influences
the income distribution of the economy (Barth et al. 2004). However, the 2008 Global Financial Crisis
(GFC) provides evidence that banking industries are not always stable. Before the 2008 GFC, banking
industries, especially those in the United States (US), were heavily involved in the real estate bubble
and credit boom, through off-balance sheet (OBS) activities. The collapse of the banking industries in
2008 quickly spread to the global financial system (Kim et al. 2013).
In addition to the prevalent OBS activities (DeYoung and Torna 2013; Engle et al. 2014), inefficient
regulation and supervision (Brunnermeier 2009) in the banking industries are among other possible
reasons for the recently fragile financial system and massive economic turmoil. That GFC also triggered
the reconsideration of the official interventions in the financial system (Cihak and Demirgüç-Kunt
2013). In practice, regulation and supervision define capital standards, set requirements for entry into
the banking market, frame acceptable ownership structures, and provide business guidelines for the
banking industries (Barth et al. 2013).
Compared to countries in other regions, most countries in the Asia-Pacific region have a
bank-dominated financial system. Financial systems in the Asia-Pacific region have undergone
J. Risk Financial Manag. 2019, 12, 131; doi:10.3390/jrfm12030131 www.mdpi.com/journal/jrfm

J. Risk Financial Manag. 2019, 12, 131 2 of 25
profound deregulation and privatisation since the 1970s. Following the deregulation, banking
industries in the Asia-Pacific region have experienced rapid growth in loans and investments. After the
1997 Asian Financial Crisis (AFC), governments in the region implemented a series of structural changes
(and reforms), both in the banking systems, and regulatory and supervisory mechanisms. Following the
2008 GFC, most countries in the Asia-Pacific region had fully implemented the Basel II Accord, and were
in a better position to introduce Basel III Accord regulations (International Monetary Fund 2013).
There are two main rationales for the existence of bank regulation and supervision.
Firstly, regulation and supervision can mitigate potential conflicts of interest and externalities in
the banking system, and thereby benefit the banking industry and social welfare (Kilinc and Neyapti
2012). Secondly, regulation and supervision can maintain the stability of fragile banking systems and
function as a safety net for the financial system (Kroszner 1998). However, regulation and supervision
are associated with extra costs for the banking systems. It is also difficult to reach equilibrium between
different regulatory rules (Freixas and Rochet 2008).
As another major tool of government intervention in the banking industry, state ownership has
been widely observed in the banking industry globally. The degree of state ownership in banks
depends on factors such as economic and financial development, property rights, and financial
openness (La Porta et al. 2002). Theoretically, there are two views supporting government ownership
in the financial markets: Development and political views. The development view contends that some
financial markets are not sufficiently developed for banks to be functional. Therefore, governments
need to participate in the financial institutions to enhance the country’s financial and economic
development (Gerschenkron 1962). In the political view, state ownership in the banking industry
is a way for politicians to affect banks’ decisions and achieve their political objectives. When the
government owns the bank, it will allocate capital resource to its supporters and gain votes (Shleifer
and Vishny 1994; Shleifer 1998).
This paper investigates the impacts of the inclusion of OBS activities in bank efficiency
measurement. Furthermore, we examine the relationship between bank regulation, supervision
and state ownership with bank efficiency in the Asia-Pacific region. The remainder of the study
is organised as the follows: Section 2 provides an overview of the Asia-Pacific banking industries;
Section 3 reviews the related literature; Section 4 describes the data and methodology; Section 5
discusses the empirical results; and Section 6 concludes the paper.
2. Overview of Banking Industries in the Asia-Pacific Region

The banking system has dominated the financial system and has played a vital role in the
economic development of the Asia-Pacific region over the previous two decades. Before the
1997 AFC, the Asia-Pacific region experienced financial deregulation and reforms, followed by
rapid economic growth relative to the US and European countries. Throughout 1990 to 1996,
the region experienced significant foreign capital inflow, high levels of domestic consumption, booming
investments, and excessive credit expansion.
However, impotent regulation and supervision during the period of financial deregulation
and reform exposed the system’s weaknesses (Fu et al. 2014) in the region. Except for Australia,
most economies in the region were severely affected by the 1997 AFC. More specifically, South
Korea, Indonesia, Malaysia, the Philippines, and Thailand were directly affected, while Hong Kong,
Singapore, and Japan were indirectly affected and experienced negative economic growth during
this period. Following the 1997 AFC, governments in the region began a series of structural reforms
and prudential regulatory policies to revive the economy and financial industry. Specifically, the
supervisory authorities in the Asian region have contributed to the banks’ better asset quality after the
1997 AFC (Rosenkranz and Lee 2019). In compliance with the more conservative regulatory policies,
banks in the Asia-Pacific region have mostly increased their capital ratios (Capannelli and Filippini
2010). More surprisingly, the Asia-Pacific banking industry maintained a high return on assets (ROA)
ratio during the 2008 GFC. Furthermore, the average ROA in the Asia-Pacific region was almost twice
that of the rest of the world, as of the end of 2014; this was largely contributed by the rapid growth of
the Chinese and Indonesian banking sectors (McKinsey Company 2016).
3. Literature Review
3.1. Efficiency Measurement

Efficiency is a commonly used concept to describe a firm’s performance. The basic idea of
efficiency measurement is to compare the observed production to the optimal production which
operates on the production frontier. Parametric and nonparametric approaches are often used to
conduct the approximation of the frontier and efficiency estimation. Both approaches are benchmarking
methods, which exploit the distance function between observed production and the production frontier.
Among the various techniques stemming from these two approaches, the two most popular approaches
employed in the banking literature are the stochastic frontier analysis (SFA) (a parametric approach)
and data envelopment analysis (DEA) (a nonparametric approach) (Fethi and Pasiouras 2010).
3.2. Inclusion of Off-Balance Sheet Activities in Efficiency Estimation

Considering the expansion in banks’ business scopes during development of the industry,
researchers currently recognise the importance of incorporating the off-balance sheet (OBS) activities
in bank efficiency estimations. While most studies directly include OBS activities into efficiency
estimations (see for example, Drake 2001; Drake and Hall 2003; Radić et al. 2012; Sufian et al. 2012),
only limited numbers of studies provide any justification for the inclusion of OBS activities in efficiency
estimations (Rogers 1998; Mester 1996; Clark and Siems 2002; Lieu et al. 2005; Pasiouras 2008a;
Lozano-Vivas and Pasiouras 2010, 2014). These studies provide ambiguous evidence on the impacts of
OBS activities inclusion in bank efficiency measurement.
Rogers (1998) measured the efficiency of more than 10,000 commercial banks (including branches)
in the US over the period 1991 to 1995. The author’s results indicate that cost and profit efficiencies
of commercial banks would both be underestimated when OBS activities are omitted. Similarly,
Clark and Siems (2002) examined the impact of including OBS activities on US bank efficiency over the
period 1992 to 1997. They concluded that OBS activities are useful for explaining variations in banks’
costs and profits. The cost efficiency is higher with the inclusion of OBS activities, but their results
demonstrate little changes in the profit efficiency measurement for the banks. Using the SFA approach,
Lieu et al. (2005) measurde the cost efficiency of the Taiwanese banking industry from 1998 to 2001.
They found that omitting OBS activities would lead to underestimating a bank’s cost efficiency by 55%.
In a study of the Greek banking industry from 2000 to 2004, Pasiouras (2008b) found that bank cost
efficiencies are not significantly affected by omitting OBS activities as an output.
Using large samples from multiple banking industries around the world, Lozano-Vivas and
Pasiouras (2010, 2014) examined the impact of including OBS activities on cost efficiency, profit
efficiencies, and Malmquist productivities measurements. They found mixed results. Lozano-Vivas
and Pasiouras (2010) explored the cost and profit efficiency for 87 countries banks from 1999 to 2006
and found that cost efficiency would have been higher when considering OBS activities, while the
results for profit efficiency were mixed. Using data from 84 countries over the period 1999 to 2006,
Lozano-Vivas and Pasiouras (2014) estimated the Malmquist cost and profit productivity for banks.
They found that bank profit productivity was higher with OBS activities, while cost productivity was
not significantly affected. Moreover, their results suggested that the exclusion of OBS activities should
jeopardise the regression results when examining the relationship between environmental factors and
bank performance.
3.3. Bank Regulation and Supervision, and Bank Efficiency

Previous studies provide inconclusive evidence with regards to the relationship between regulation,
supervision and bank performance using data from various countries or regions. As one of the first
studies at the international level, Barth et al. (2004) find that activity restrictions are negatively related
to bank efficiency. While market discipline can significantly boost bank efficiency, capital regulation
and supervision power are not significantly related to bank performance. In addition, that state
ownership is negatively related to bank efficiency. In a study by Barth et al. (2004), bank efficiency
was measured with net interest margin and overhead costs (that is, lower net interest margins and
overhead costs indicating higher bank efficiency).
Using 715 banks from 95 countries in 2003, Pasiouras (2008a) found empirical evidence to support
the implementation of three pillars in the Basel II Accord. The authors’ result indicates a positive
correlation between capital adequacy regulation, official supervisory power, and market discipline
with bank technical efficiency. Furthermore, deposit insurance has no significant relationship with bank
efficiency. They also found that government and foreign ownership were associated with lower bank
efficiency. In Chortareas et al.’s (2012) study, however, market discipline was found to be negatively
related to the European banks’ technical efficiency.
After measuring both cost and profit efficiency for banks from 74 countries from 2000 to 2004,
Pasiouras et al. (2009) concluded that both official supervision and market discipline were positively
related to both efficiency measurement. Additionally, they found that capital regulation would increase
cost efficiency while reducing profit efficiency during the period. In contrast, activity restrictions
improved profit efficiency but reduced cost efficiency. However, Lozano-Vivas and Pasiouras’s (2010)
study revealed that supervisory power was negatively related to cost efficiency and positively related
to profit efficiency based on a larger dataset from 1999 to 2006.
More recently, Luo et al. (2016) examined the profit efficiency of banks from 140 countries over
the period 1999 to 2011, and found that capital regulation, market discipline, and activity restrictions
had positive relationships with bank efficiency. However, official supervision power was negatively
related to bank efficiency. Focusing on banks from African countries, Triki et al. (2017) suggested that
the impacts of regulation and supervision on bank performance depend on the bank size and risks.
While other regulatory policies show no significant impact, capital stringency is found to be positively
related to large banks with low risks.
Rather than using individual regulatory policies, Gardener et al. (2011) created a comprehensive
regulatory index to capture information of the three pillars in the Basel Accord in their study of
East Asian banking industries. Their results suggest that bank regulation is negatively related to
technical efficiency while positively related to allocative efficiency. Moreover, that those relationships
are not significant for state-owned banks, suggesting that regulation and supervision do not impact
the performance of state-owned banks.
3.4. State Ownership in the Banking Industry

Most previous studies provide empirical evidence which supports the “political view” of state
ownership and argue that state ownership is related to less development in the banking industry
(Barth et al. 2001; La Porta et al. 2002); less profitability (Micco et al. 2007; Cornett et al. 2010;
Lin and Zhang 2009); and lower profits and cost efficiency (Berger et al. 2005; Bonin et al. 2005;
Perera et al. 2007; Margono et al. 2010). However, a few studies find that state-owned banks are more
efficient (Gardener et al. 2011; Wang et al. 2014; Dong et al. 2014; Berger et al. 2009) than other types of
banks and are related to higher stockholder value (Hossain et al. 2013). Other studies (Barry et al. 2008),
however, find no significant difference between state-owned banks and privately-owned banks.
Micco et al. (2007) argues that state-owned banks in developing countries have higher costs and lower
profits, while those in developed countries have no significant difference in costs and profits. Some
studies in the Indonesian banking industry suggest that state-owned banks are found to be less efficient
(Perera et al. 2007; Margono et al. 2010; Shaban and James 2018).
In contrast with the previous argument that state ownership impedes bank performance,
Gardener et al. (2011) suggest that state-owned banks in developing Asian countries are more efficient
than other types of banks. Hossain et al. (2013) also notes that state ownership is a desirable
government intervention mechanism used to reduce the negative impact on shareholder value in the
Asia-Pacific banking industry. Empirical evidence revealed the better performance of China’s four
largest state-owned banks (Wang et al. 2014; Dong et al. 2014; Tan and Anchor 2017) over other banks
in China. After estimating bank efficiency in Hong Kong, Indonesia, Korea, Malaysia, the Philippines,
and Thailand, Barry et al. (2008) found that state-owned banks were not significantly different from
privately-owned banks.
4. Data and Methodology
4.1. Data Sources

The bank-level financial data used in this study are comprised of data from unconsolidated
statements of individual banks taken from the BvD Bankscope database. When unconsolidated
statements are not available, consolidated statements are used instead. Only active commercial banks
in Australia, China, Hong Kong, Indonesia, Japan, New Zealand, Singapore, and Thailand were used
as sample banks in this study. To capture the overall banking industry characteristics, observations
with less than three consecutive years of available data were omitted. Therefore, the sample data
decreased from 5610 to 3749 observations for 544 banks. Due to the data validation requirements for
DEA approaches, observations with missing, zero, or negative values in the inputs or outputs variables
were dropped. As a result, a total sample of 2186 bank-year observations was obtained.
Data on bank regulation and supervision was obtained from the World Bank (2007, 2011).
Considering that there were changes in bank regulatory and supervisory policies in most countries
following the 2008 GFC, regulation and supervision data from the 2007 survey were used for the period
2005 to 2008. Those regulatory and supervisory data obtained from the 2011 survey were used for the
period 2009 to 2014. Bank ownership data were constructed using ownership data provided in the BvD
Bankscope database. Other country-level data was obtained using the Global Financial Development
Database and World Governance Indicators Database. Appendix A Table A1 provides details of the
definition and source of each variable used in this study.
4.2. Efficiency Estimation: Bootstrap DEA Approach

Similar to the conventional benefit/cost theory, the fundamental idea of efficiency measurement
is to estimate a ratio of weighted outputs to weighted inputs for each decision-making unit (DMU)
(Cook and Seiford 2009). In the efficiency estimation, banks operating on the production frontier
are the best-practice banks with efficiency scores of one. Those operating away from the frontier are
considered to be inefficient, with efficiency scores less than one. Depending on the distance from the
sample banks to the frontier, the DEA approach is employed to estimate relative efficiencies ranging
from 0 to 1 (Cook and Seiford 2009) for all individual banks.
Assume there are I banks in the sample data; each bank uses N inputs to produce M outputs.
The input Xi for the i-th bank is an N × 1 vector and the output Yi is an M × 1 vector for the i-th
bank. Thus, the production set for bank i can be denoted as (Xi , Yi ). To measure the input-orientated
technical efficiencies for bank i, the constant return to ccale (CRS) model solves the following linear
programming problem as in Equation (1):
min θ,λ θ,
s.t. θXi − Xλ ≥ 0,
(1)
–Yi + Yλ ≥ 0,
λ≥0
where θ is a scalar, and λ is a vector of constant. The efficiency estimated using Equation (1) is the
overall technical efficiency.
After taking various external restrictions and influences into consideration, and assuming that
there exists scale inefficiency as well as technical inefficiency in the banks during the production
process, the variable return to scale (VRS) model can be used to separate the technical inefficiency
into pure technical inefficiency and scale inefficiency. To estimate pure technical efficiency for bank i,
Equation (2) solves the linear programming problems:
minθ,λ θ,
s.t. θXi − Xλ ≥ 0,
–Yi + Yλ ≤ 0, (2)
eλ = 1
λ≥0
where θ is a scalar, λ is a vector of constant, and e is an I × 1 vector of ones.
The VRS model measures bank efficiency using a benchmark of similar-sized bank groups
(Coelli et al. 2005). After excluding the impact of scale inefficiency, the technical efficiencies estimated
using the VRS model are greater or equal to those estimated through the CRS model (Pasiouras 2008a)
scale efficiency (SE) can be calculated as:
TECRS
SE = (3)
PTEVRS
To deal with the issue of asymptotic distribution of estimated efficiency, Simar and Wilson (2000,
2007) proposed a smoothed bootstrapping DEA model to provide a more reliable interpretation of
efficiency scores.
To consider the distinctive production opportunities for banks operating in different countries,
O’Donnell et al. (2008) introduced the idea of meta-frontier for firms operating in different groups and
facing various circumstances. The meta-frontier production possibility set T contains all the feasible
input-output combinations for banks from all different groups, which can be expressed in a simple
function, as:
T = [(X, Y)X ≥ 0, Y ≥ 0, X can produce Y] (4)
The input-orientated efficiency score, which gives the maximum amount of input reduction for
bank i is defined as meta-frontier technical efficiency (MTE). Assuming there are K (K > 1) countries in
the sample, the technical efficiency for bank i in country k can be defined as group technical efficiency
(GTE). Specifically, the technology gap ratio (TGR) for bank i in country k is defined as:
MTE(Xi , Yi ) θ
TGRik (Xi , Yi ) = = k (5)
GTEk (Xi , Yi ) θ
when TGRik equals 1, the group-frontier is tangent to the meta-frontier. In other words, the larger the
TGRk , the more advanced the technology adopted by banks in country k.
Based on recent literature, our study employed the intermediation approach for input and output
selection. Additionally, to analyse the impact of the inclusion of OBS activities, we estimated bank
efficiency using four models with different input and output selections and examined whether the
incorporation of OBS activities significantly affect bank efficiency measurements in the Asia-Pacific
region (see Table 1). To capture the impact of OBS activities on efficiency estimations, “off-balance
sheet items” were considered as an additional output to describe the aggregation of guarantees,
acceptances and documentary credits, committed credit facilities, managed securitised assets, other
exposure to securitisations, and other bank contingent liabilities. Additionally, “loan loss provisions”
were also considered to be one of the inputs which indicate problem loans in the banking industry,
following Charnes et al. (1990); Altunbas et al. (2000); Drake and Hall (2003); Pasiouras (2008b); and
Hall et al. (2012)’s studies.
After obtaining four sets of efficiencies using 4 different models, we employed the Kruskal-Wallis
test to examine if the differences between Models 1 and 2, and Models 3 and 4 were significantly
different from zero. Furthermore, we used the Skillings-Mack test to test the rankings of the efficiencies
from 4 Models. All of the efficiency estimates are bias-corrected using the Bootstrap DEA approach
following Simar and Wilson (2007).1
Table 1. Input and output specifications for Models 1 to 4.
Model 1 Model 2 Model 3 Model 4

Inputs Inputs Inputs Inputs
Fixed Assets Fixed Assets Fixed Assets Fixed Assets
Total Deposits Total Deposits Total Deposits Total Deposits
Noninterest Expenses Noninterest Expenses Noninterest Expenses Noninterest Expenses
Loan Loss Provision Loan Loss Provision
Outputs Outputs Outputs Outputs
Loans Loans Loans Loans
Other Earning Assets Other Earning Assets Other Earning Assets Other Earning Assets
Off-balance Sheet Items Off-balance Sheet Items
Source: Adapted from Pasiouras (2008b).
4.3. Bootstrap Truncated Regression Model

To measure the impact of regulation, supervision, and state ownership on bank efficiency,
the bootstrap truncated regression model was employed using bias-corrected bank efficiency θ̂ˆ as the
dependent variable. Three bias-corrected efficiency measurements were used in the regression model.
Specifically, pure technical efficiency (PTE) was used to measure bank efficiency by using minimum
inputs to produce a given level of outputs; scale efficiency (SE) was used to measure the efficiency of
exploiting the optimal operating scale, and the technology gap ratio (TGR) was used to measure the
gap between technology in one country to the best production technology in the Asia-Pacific region.
The regression models are specified as follows:
PTEk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

(6)
∗YEAR Dummy + β5 ∗ country Dummy + εk,i
SEk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

(7)
∗YEAR Dummy + β5 ∗ country Dummy + εk,i
TGRk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

(8)
∗YEAR Dummy + β5 ∗ Country Dummy + εk,i
where PTEk,i denotes the bias-corrected pure technical efficiency for bank i in country k, SEk,i denotes
the bias-corrected scale efficiency for bank i in country k; TGRk,i denotes the bias-corrected technology
gap ratio for bank i in country k. The independent variables are REGk is a vector of bank regulation
and supervision indicators in country k; Ownershipk,i is a dummy variable, which equals 1 when the
bank is classified as state-owned; Banki,k is a vector of bank-specific characteristics for bank i in country
k, and Countryk is a vector of country-specific characteristics for country k; YEAR Dummy is the year
dummy variable from 2005 to 2014; Country Dummy is the country dummy variable for the sample
countries; εk,i is the error term.
4.3.1. Bank Regulation and Supervision Variables

Together with activity restrictions, the three pillars of the Basel Accord II were used as regulation
and supervision variables in the regression models. As discussed in the introduction, the three pillars
are capital requirements, official supervision power and market discipline. Activity restrictions in
the banking industry were also included to capture restrictions imposed on non-bank activities in
1 More methodology descriptions can be found in the study of Simar and Wilson (2007).
the Asia-Pacific banking sectors. The four indicators of bank regulation and supervision are denoted
as capital regulation CAPk , official supervisory power SPPOWERk , market discipline MKDSPLk ,
and activity restrictions ACRSk . Bank regulation and supervision data are obtained primarily from the
Bank Regulation and Supervision Survey (Barth et al. 2007, 2012).
Based on Barth et al.’s (2001, 2007, 2008, 2012) descriptions, regulation and supervision variables
are constructed through assigning “1” or “0” to several survey questions, where regulation and
supervision authorities from various countries give answers of “yes” or “no”.2
CAPk was the index of capital regulation to measure the initial and overall capital requirements for
banks in country k. This index was constructed using answers from five survey questions. The range
of the capital requirement was from 0 to 7. A higher value indicates more stringency in the country’s
capital regulation.
SPPOWERk assessed the extent of official supervisory power to oversee, monitor, and discipline
managers, directors, and auditors of banks in country k. Fourteen questions were surveyed to obtain
the value of supervisory power. Variables ranged from 0 to 14 for each country. Similar to capital
requirements, higher values show stronger supervisory power from regulatory authorities.
MKDSPLk measures information disclosure to shareholders, auditors, and the public, and whether
any credit ratings are required by regulatory authorities for banks in country k. There were seven
questions for this variable. Therefore, the value of market discipline ranged from 0 to 7. A higher value
indicates a more informative and transparent banking industry.
ACRSk was the proxy of non-bank activity restrictions in real estate investment, insurance
underwriting and selling, brokering and dealing securities, and all businesses of mutual fund
industries in country k. For each category of activities, there were four answers: 1 (unrestricted),
2 (permitted); 3 (restricted); and 4 (prohibited). Thus, the value of ACRSk ranged from 0 to 12. A higher
value of activity restriction indicates more restrictions on nonbank activities in the banking industry.
4.3.2. State Ownership

The variable Ownershipk,i was used to examines the relationship between bank ownership and
efficiency. Historical ownership data for each sample bank was obtained from the BvD Bankscope
database. The global ultimate ownership (GUO) of banks and historical information of direct owners
were considered when constructing the variable. Since 20% of the ownership is typically sufficient to
have control rights in the banks’ operation decisions (La Porta et al. 1999), the benchmark of 20% was
used in this study to identify whether the government had control rights. For each bank, shareholders
with shares of more than 3% in the bank were considered each year. If the shareholder was a central
government, local government, or sole state-owned enterprise in country k, the shareholder was
regarded as the government. The dummy variable Ownershipk,i equaled one when the aggregate
ownership of government in bank i of country k was greater than 20%. Similarly, we also identified
foreign-owned banks for comparison. A bank was identified as foreign-owned when a single foreign
shareholder owned more than 20% of the bank share. If the bank was neither state-owned nor
foreign-owned, it was classified as a privately-owned bank.
4.3.3. Control Variables

To control the impact of other bank-specific characteristics on bank efficiency, this study included
a set of bank-specific variables Banki,k in the regression models. The bank-specific variables were
Banksizei,k ; EQTAi,k ; OBSTAi,k ; LLPTLi,k ; LIQTAi,k .
Banksizei,k is calculated as the logarithm of total assets to capture bank scale characteristics.
EQTAi,k is proxied as the ratio of total equity divided by total assets, to control the level of capitalisation
in banks. The other three variables are used to capture three types of risks in banks. The first variable
2 The World Bank Regulatory and Supervisory survey questions are available upon request.
is OBSTAi,k is calculated as off-balance sheet items divided by total assets. A higher OBSTAi,k value
suggests higher risks accompanied by a higher ratio of off-balance sheet activities. The second variable,
risk proxy LLPTLi,k is used to capture credit risk, calculated as loan loss provisions over total loans.
A higher LLPTLi,k value indicates a higher bank credit risk. The last risk measurement is LIQTAi,k ,
which controls bank liquidity risk levels. LIQTAi,k is calculated as liquid assets over total assets.
A higher LIQTAi,k value indicates lower liquidity risk in bank i in country k.
Except for bank-specific variables, country-specific variables were also included in our
regression models to account for variations in bank operating environments. We considered five
country-level variables: Real GDP growth (GDP_growthk ), inflation rate (INFk ), concentration (HHIk ),
banking industry development (PrCrGDPk ), and institutional governance environment INS_ENVk .
GDP_growthk is measured as the annual growth rate of GDP to control for macroeconomic conditions
of the country. Additionally, inflation INFk is measured by the annual rate of the implicit GDP deflator.
Finally, three remaining variables were used to capture the characteristics of the countries’ banking
industries. The first variable is concentration (Herfindahl Hirschman Index-HHI). HHIk is calculated
as the sum of the square of deposit shares for each bank in all banks of that country. The PrCrGDPk
describes the level of bank claims to the private sector to GDP, which is used to capture the intermediation
activities of the banking industry in one country (Pasiouras 2008a). The last variable, institutional
governance indicator INS_ENVk is used to control the institutional environment for countries. Initially,
there are six dimensions of governance environment: Voice and accountability (Voice), political stability
and absence of violence/terrorism (Stability), government effectiveness (Gov_E f f ), regulatory quality
(Reg_Qua), the rule of law (Rule_Law), and control of corruption (Corruption). Each of these variables
ranges between −2.5 and 2.5. Since these six variables are highly correlated, we employed principal
component analysis to create a new variable INS_ENVk to measure the overall governance environment
of each country.
5. Empirical Results
5.1. Descriptive Statistics

Table 2 shows the mean and standard deviation values of each input and output variable for
efficiency estimations, from 2005 to 2014. All of the bank data were obtained from the BvD Bankscope
database, and data have been adjusted using the GDP deflator in 2005. Table 3 provides the descriptive
statistics of the regression models’ variables for the full sample data over the period 2005 to 2014.
The pairwise correlation coefficients between the independent variables are shown in Appendix A
Table A2. Based on the correlation matrix, the absolute values of most of the correlation coefficients are
smaller than 0.3 and the maximum absolute value of the correlation coefficients is less than 0.7. Thus,
multicollinearity was not a major concern in our regression models.
Table 2. Descriptive statistics of the inputs and outputs of banks in the Asia-Pacific region (2005–2014).
Variables Mean SD Max Min

Inputs
Total Deposits 86,068.17 279,580.74 * 3,368,189.83 23.11
Fixed Assets 709.95 2,472.14 32,567.41 0.07
Noninterest Expenses 896.90 2,698.78 31,232.88 0.90
Loan Loss Provisions 209.44 782.56 10,632.95 0.00
Outputs
Loans 45,788.47 141,244.02 1,759,887.29 6.09
Other Earning Assets 30,315.82 107,021.11 2,247,399.26 9.06
Off-balance Sheet Items 13,047.35 43,863.62 537,704.05 0.00
Notes: All of the bank data are real value in million US dollars adjusted based on the GDP deflator in 2005 for each
country from 2005 to 2010. Source: Calculated by the author using data from the BvD Bankscope database. * The large
standard deviation value compared to mean value can be observed in the studies of Chortareas et al. (2013); Viverita
and Ariff (2011), etc.
Table 3. Descriptive statistics of regression model variables (2005–2014).
Variables Mean SD Max Min

Regulation and Supervision
CAP 3.7683 1.7702 5 1
SPPOWER 11.7669 1.1598 14 7
ACRS 8.1163 2.0572 12 3
MKDSPL 5.3054 0.5554 6 4
DEP_INS 0.7239 0.4472 1 0
Ownership
STATE 0.1003 0.3004 1 0
Bank-specific
BANKSIZE 16.6697 1.8822 21.9376 10.048
EQTA 0.0876 0.0747 0.81 0.0035
OBSTA 0.1591 0.3874 13.2399 0
LLPTL 0.0061 0.0082 0.0797 0
LIQTA 0.1594 0.1295 0.8454 0.0014
Country-specific
GDP_growth (%) 3.9979 3.9893 15.2404 −5.4171
INF (%) 2.631 4.378 18.1498 −1.8957
HHI 0.1375 0.0784 1 0.064
PrCrGDP (%) 98.7247 37.2066 219.12 22.31
INST_ENV −0.6172 2.1847 2.5613 −3.7848
Notes: Bank-specific variables and HHI were calculated using data from the BvD Bankscope database. Data for
GDP_growth, INF, and PrCrGDP were obtained from the Global Financial Development Database. Data of
INST_ENV is the result of the principal component analysis from 6 indicators of World Governance Indicators.
Source: Regulation and supervision data are obtained from the World Bank (2007, 2011).
5.2. Bank Efficiency and Non-Traditional Activities

To examine the impact of including OBS activities on bank efficiency estimations, Table 4 presents
the average TE (technical efficiency), PTE (pure technical efficiency), and SE (scale efficiency) scores of
4 different models relative to the meta-frontier. After bias-correction, the TE, PTE and SE estimates had
smaller means and standard deviations, which supports Fallah-Fini et al.’s (2012) statement that banks
appear to be efficient under traditional DEA approach, but might not be efficient using the bootstrap
DEA approach. According to Simar and Wilson (2007) and Fallah-Fini et al. (2012), one possible
reason for the existence of such a large bias is that there are not enough observations to construct the
correct frontier.
Without considering the asset quality of the banking industry, the comparison between bank
efficiency of Models 1 and 2 show that the average TE and PTE scores are higher after with the inclusion
of OBS activities. However, the average SE score is lower after incorporating non-traditional activities.
Similarly, compared to Model 3, the average TE and PTE estimates are higher, and the average SE
estimates are lower in Model 4. To test whether differences in bank efficiencies were significantly
different from zero, we followed Lozano-Vivas and Pasiouras (2010), and conducted the Kruskal-Wallis
tests to compare between Models 1 and 2, as well as Models 3 and 4. The results are presented in
Table 5.
3 Model 1 excludes both off-balance sheet (OBS) and LLP in the efficiency estimation; Model 2 includes OBS and excludes LLP
in the efficiency estimation; Model 3 consists of the LLP but excludes the OBS in the estimation; Model 4 includes both OBS
and LLP in the estimation.
Table 4. Average technical efficiency, pure technical efficiency, and scale efficiency of 4 efficiency
estimation models.3
Without Considering Risk With Considering Risk

Efficiencies Model 1 Model 2 Model 3 Model 4
Without OBS With OBS Without OBS With OBS
Panel A: Bootstrap DEA Approach
0.5735 0.5824 0.6067 0.617
TE
(0.1233) (0.1206) (0.1371) (0.1354)
0.8025 0.8290 0.8161 0.8459
PTE
(0.1257) (0.1233) (0.1213) (0.1173)
0.7196 0.7074 0.7689 0.7322
SE
(0.1290) (0.1250) (0.2478) (0.1334)
Panel B: Traditional DEA Approach
0.6337 0.6481 0.6725 0.6891
TE
(0.1376) (0.1392) (0.1609) (0.1609)
0.8453 0.8748 0.863 0.8936
PTE
(0.1346) (0.133) (0.1323) (0.1282)
0.7546 0.7468 0.8062 0.7738
SE
(0.1306) (0.1364) (0.265) (0.1461)
Notes: TE = overall technical efficiency; PTE = pure technical efficiency; SE = scale efficiency. Standard deviations
are shown in the parenthesis. Models 1 to 4 use different inputs and outputs specifications (see Table 1). Source:
Author’s calculations.
Table 5. Kruskal-Wallis test results for efficiencies with and without off-balance sheet (OBS) activities.
Without Considering Risk With Considering Risk

Efficiencies Model 1 Model 2 Model 3 Model 4
Without OBS With OBS without OBS With OBS
Panel A: Bootstrap DEA Approach
chi-squared = 6.426 chi-squared = 6.847
TE
probability = 0.0112 probability = 0.0089
PTE
SE
Panel B: The Traditional DEA Approach
TE
PTE
SE
Notes: TE = overall technical efficiency; PTE = pure technical efficiency; SE = scale efficiency. Null hypotheses of
the Kruskal-Wallis tests state that two efficiencies are the same and a small p-value suggests a rejection of the null
hypothesis. Source: Author’s calculation.
Table 6 indicates that efficiency estimates from the four models were significantly different,
based on the small p-values for PTE (Panel A), TE (Panel B), and SE (Panel C). Furthermore, based
on the information from the ranking statistics (WSumCRank and WSum/SE), we can confirm our
observations in Table 4. Model 2 had higher average PTEs and TEs than those in Model 1, and Model 4
had higher PTEs and TEs than those in Model 3. In addition, after the inclusion of OBS activities, the
SEs in Model 2 (Model 4) were lower than those in Model 1 (Model 3).
Table 6. Results of Skillings-Mack test for efficiency estimates for the four efficiency estimation models.
Number of
Models WSumCRank Standard Error WSum/SE
Observations
Panel A: Overall Technical Efficiency
Model 1 2505 −3094.51 86.69 −35.7
Model 2 2505 −1266.47 86.69 −14.61
Model 3 2505 1326.88 86.69 15.31
Model 4 2505 3034.1 86.69 35
Skillings Mack = 2210.210
p-value (No ties) = 0.0000
Panel B: Pure Technical Efficiency
Model 1 2505 −3004.66 86.69 −34.66
Model 2 2505 502.71 86.69 5.8
Model 3 2505 −510.46 86.69 −5.89
Model 4 2505 3012.41 86.69 34.75
Panel C: Scale Efficiency
Model 1 2505 256.39 86.69 2.96
Model 2 2505 −1742.07 86.69 −20.1
Model 3 2505 948.88 86.69 10.95
Model 4 2505 536.8 86.69 6.19
Notes: WSumCRank is the weighted sum of centred ranks. Standard Error: Standard error of the test. WSum/SE is
the weighted sum of cantered ranks divided by the standard error. Smaller WSumCRank or WSum/SE indicates a
lower rank among the models. Source: Author’s calculations.
Table 7 shows the average meta-frontier PTE score of 0.9039 for Australian banks was the
highest, relative to the average level of other countries, followed by Hong Kong (0.8958) and Japan
(0.8847). In contrast, Indonesian banks had the lowest average meta-frontier PTE estimate of 0.7312,
which suggests that an average bank in Indonesia can reduce inputs by 26.88% compared to the most
efficient banks in the Asia-Pacific region, to produce the same level of outputs.
Combining the information of group-frontier PTE and meta-frontier PTE, the range of the TGR
scores for the sample countries ranged from 0.8610 (Indonesia) to 0.9227 (Japan). Compared to
the meta-frontier PTE, the relatively small range of TGRs suggests that the distances between the
country-frontiers and meta-frontier were similar among the sample countries. For example, the average
TGR for Australian banks of 0.9091 indicates that Australian banks operating on the frontier can
improve and move towards the meta-frontier by reducing inputs by 9.09%.
Table 7. Group-frontier PTE, Meta-frontier PTE, and TGRs for Sample Countries (2005 to 2014).
Group PTE Meta PTE TGR

Countries
Mean SD Mean SD Mean SD
Australia (n = 119) 0.9982 0.0154 0.9039 0.0791 0.9091 0.0828
China (n = 627) 0.9232 0.0524 0.8245 0.1175 0.8930 0.1060
Hong Kong (n = 156) 0.9843 0.0203 0.8958 0.0665 0.9099 0.0630
Indonesia (n = 389) 0.8529 0.1418 0.7312 0.1564 0.8610 0.1292
Japan (n = 941) 0.9588 0.0269 0.8847 0.07 0.9227 0.0688
New Zealand (n = 60) 0.9636 0.0272 0.8603 0.1443 0.8897 0.1266
Singapore (n = 54) 1 0 0.877 0.102 0.8770 0.1020
Thailand (n = 159) 0.9785 0.0284 0.8737 0.066 0.8929 0.0627
Notes: group PTE = group-frontier pure technology efficiency; meta PTE = meta-frontier pure technical efficiency;
TGR = technology gap ratio. Source: Author’s calculations.
5.3. Bootstrap Truncated Regression Results
5.3.1. Impact of Bank Regulation, Supervision, and Ownership on Bank Efficiency

To examine whether bank regulation, supervision, and state ownership in banks have significant
influences on bank performance, the second-stage bootstrap regression model (Simar and Wilson 2007)
was employed in this study. The pairwise correlated coefficients of the independent variables indicated
no major issues of multicollinearity in the regression (see Appendix A Table A2). Additionally, robust
standard errors were used in all the regression models to address potential heteroskedasticity problems.
Year dummy and country dummy variables were included in the regression model to capture the
impact of time and other unspecified country-specific characteristics.
Table 8 shows the regression results of the relationship between regulation, supervision and
bank efficiencies (that is, PTE—pure technical efficiency, SE—scale efficiency, and TGR—technology
gap ratio) using the full sample data of 2186 bank-year observations. Overall, the regression results
show that regulation and supervision policies are positively related to pure technical efficiency and
technology gap ratio of banks in the Asia-Pacific region. Following the first pillar of the Basel Accord,
the capital requirement had a positive relationship with PTE and TGR at a 1% significance level.
Consistent with previous empirical studies (Lozano-Vivas and Pasiouras 2010; Barth et al. 2013;
Luo et al. 2016), stricter capital requirements can reduce the incentive to engage in risky behavior, and
therefore improve the bank performance. The positive relationship between capital regulation and
scale efficiency was insignificant.
Table 8. Bootstrap truncated regressionrResults: Full sample data.
Model 4 Model 1
Variables Pure Pure
Scale Technology Scale Technology
Technical Technical
Efficiency Gap Ratio Efficiency Gap Ratio
Efficiency Efficiency
CAPITAL 0.0413 *** −0.0008 0.0414 *** 0.0143 −0.0051 0.0024
(3.3049) (0.1182) (2.7251) (1.4627) (0.6653) (0.2161)
SPPOWER 0.0112 ** 0.0052 0.0304 *** 0.0162 *** −0.0027 0.0346 ***
(2.2398) (1.2695) (4.3678) (3.6520) (0.7370) (5.8246)
MKDSPL 0.0934 ** 0.0802 ** 0.2591 *** 0.0797 ** 0.0811 ** 0.1682 ***
(2.0006) (2.1102) (3.6960) (2.0011) (2.3647) (2.7786)
ACRS 0.0252 ** −0.0035 0.0536 *** 0.0180 ** −0.0011 0.0281 **
(2.4088) (0.4291) (3.2889) (2.0262) (0.1505) (1.9672)
DEP_INS −0.0180 0.0119 −0.0015 0.0003 0.0502 *** −0.0039
(0.7791) (0.6636) (0.0447) (0.0132) (3.2407) (0.1462)
Table 8. Cont.
Model 4 Model 1
Variables Pure Pure
Scale Technology Scale Technology
Technical Technical
Efficiency Gap Ratio Efficiency Gap Ratio
Efficiency Efficiency
Bank Ownership
STATE −0.0146 0.0101 −0.0209 −0.0078 0.0024 −0.0130
(1.2922) (1.1599) (1.3806) (0.8073) (0.2894) (1.0847)
Bank-specific
BANKSIZE 0.0387 *** −0.0307 *** 0.0496 *** 0.0353 *** −0.026 *** 0.0397 ***
(13.1486) (18.0733) (8.6720) (16.1771) (16.1730) (11.4585)
EQTA 0.5016 *** 0.1470 *** 0.5327 *** 0.4708 *** 0.1332 *** 0.4169 ***
(7.7435) (3.2061) (5.9613) (8.8300) (2.7354) (6.4345)
LIQTA −0.1147 *** 0.0359 −0.1367 ** −0.0752 ** 0.0044 −0.0435
(2.8748) (1.3852) (2.3743) (2.1534) (0.1807) (1.0027)
OBSTA −0.0261 0.0113 * −0.0161
(1.2194) (1.7808) (1.1607)
LLPTL −0.1660 −1.568 *** −0.4978
(0.4644) (4.4302) (1.2061)
Country-specific
GDP_growth 0.0028 −0.0007 0.0034 0.0053 *** 0.0009 0.0110 ***
(1.2052) (0.4408) (0.9910) (3.0187) (0.6334) (4.3530)
INF 0.0021 0.0040 *** −0.0074 *** 0.0024** 0.0040 *** −0.0059 ***
(1.5009) (3.1245) (3.2805) (2.0932) (3.3899) (3.5733)
HHI 0.1704 0.1153 −0.0530 0.0569 −0.0385 −0.1445
(1.3020) (1.3683) (0.3083) (0.5487) (0.6604) (1.1137)
PrCrGDP −0.0014 *** −0.0000 −0.0016 ** −0.0000 −0.0006 ** 0.0008 *
(2.9624) (0.1594) (2.4151) (0.0459) (2.3849) (1.8283)
INST_ENV −0.0403 −0.0369 −0.0264 −0.066 *** −0.0249 −0.0481
(1.3761) (1.5343) (0.6527) (2.7279) (1.1007) (1.4502)
Constant (2.4733) (0.7818) (3.7280) (2.5700) (1.5091) (2.3282)
−0.3658 0.8555 *** −1.7831 *** −0.4160 0.8127 *** −1.2376 **
Sigma (0.9459) (2.7512) (2.9241) (1.2686) (2.9727) (2.3473)
0.1028 *** 0.0996 *** 0.1154 *** 0.0925 *** 0.0892 *** 0.1055 ***
Country
Yes Yes Yes Yes Yes Yes
Dummy
Year Dummy Yes Yes Yes Yes Yes Yes
Note: This table reports the coefficients of regulation and supervision variables, state ownership, and other
control variables in the Simar and Wilson (2007) bootstrap truncated regression models. Z-statistics are shown
in the parentheses. See Appendix A Table A1 for definitions and information about the independent variables.
*, **, *** indicates 10%, 5% and 1% levels of significance, respectively. Source: Author’s calculations.
Similar to the capital requirement, the second pillar of the Basel Accord (that is, the official
supervision power), is positively related to both PTE and TGR at 5% significance level. Under
the “official supervision approach,” greater official supervision power is believed to increase credit
flow to firms which are well-connected with banks (Levine 2004) and enhances bank performance.
Furthermore, a powerful official supervision regime can improve bank efficiency through increased
competition in the banking industry (Barth et al. 2008). Empirically, our result is consistent with
Pasiouras (2008a) and Luo et al.’s (2016) findings on global banking industries. Hirtle et al. (2016)
found similar results in the US bank-holding companies. Official supervisory power is not significantly
related to banks’ scale efficiency.
The significantly positive coefficients of market discipline on PTE, SE, and TGR estimates support
the “private monitoring approach” hypothesis, in which regulation and supervision policies promoting
private monitoring in banks can induce better performance. By requiring banks to disclose adequate
information to the public, market discipline can encourage private sectors to monitor banks with lower
information and transaction costs (Barth et al. 2008). Table 8 shows that market discipline is the only
regulation and supervision variable which is significantly (at a 5% significance level) related to the
scale efficiency of banks in the Asia-Pacific region.
Banks with more activity restrictions tend to have higher performance, in both pure technical
efficiency and technology gap ratios. These findings are similar to Barth et al.’s (2004) discussion
that restricting banks engagement in security underwriting, insurance underwriting, and real estate
investments would limit the conflicts of interest between stakeholders. Furthermore, narrowing
the range of activities can reduce risky behaviours caused by moral hazards (Boyd et al. 1998) and
positively affect bank performance. There is no evidence to suggest a significant relationship between
activity restrictions and scale efficiency.
The existence of a deposit insurance scheme in each country has no significant relationship
with bank performance according to our results. Additionally, state ownership is not significantly
related to bank performance in the Asia-Pacific region. Bank-specific characteristics exhibit significant
relationships with bank efficiencies. For example, bank size is positively related to technical efficiency
and technical gap ratio, indicating that larger banks have better management and technology in their
production processes. However, bank scale efficiency tends to be lower for larger banks, possibly due
to the fact that most banks in the Asia-Pacific region expanded too quickly and operated at decreasing
returns to scale during the 10-year sample period.
In addition, banks with higher capital ratios performed better in all three efficiency estimates.
When banks hold more capital, managers tend to be more risk-averse in terms of operation, and
therefore these banks would exhibit better performance. Our results are consistent with most of the
previous studies in bank performance (see Demirgüç-Kunt and Huizinga 1999; Goddard et al. 2004;
Sufian and Habibullah 2010; Fiordelisi et al. 2011; and Pessarossi and Weill 2015).
The level of liquid assets (LIQTA) in banks has a negative relationship with technical efficiency
and technical gap ratio, but no significant correlation with scale efficiency. One possible reason for a
higher level of liquid assets could be that banks would raise more liquid assets to reduce risks during
times of uncertainty and unfavourable industry conditions (Radić et al. 2012). Thus, banks tend to have
a lower performance during those times. Moreover, liquid assets are believed to be less profitable than
illiquid assets and reduce investment opportunities for banks managers. The negative relationship
between liquid ratio and technical gap ratio implies that holding more liquid assets would widen the
distance from the group frontiers to the meta-frontier in banking industry.
The coefficients of GDP growth are not significantly related to bank performance, while a higher
inflation rate has a positive relationship with scale efficiency and a negative impact on technology
gap ratio. The concentration (HHI) of the banking industry appears unrelated to bank performance
in the Asia-Pacific region. Furthermore, the negative coefficients of PrCrGDP indicate a negative
relationship between private credit from banks to GDP and bank performance, suggesting that financial
markets with more lending to private credit have relatively lower bank performance. The overall
institutional environment of banks exhibits no significant relationship with bank performance in the
Asia-Pacific region.
5.3.2. Regulation, Supervision, and Bank Size

After categorising banks into three size groups—small, medium and large, based on banks’ total
assets, we conducted further analysis to examine if the impacts of regulation, supervision, and state
ownership on bank efficiency would be different in different sized groups. Table 9 shows the regression
results for each bank groups, using meta-frontier efficiency from Model 4 as the dependent variable.
Our findings in Table 9 suggest that stricter regulation and supervision policies are mostly positively
related to small-sized banks, but not to medium or large-sized banks.
The first three columns in Table 9 compare the impact of regulation, supervision, and state
ownership on pure technical efficiency for three sized bank groups. Tighter capital regulation and
market discipline are significantly related to higher pure technical efficiency of small banks at a 1%
significant level. At the 10% significance level, activity restriction is positively associated with the pure
technical efficiency of small banks. While official supervisory power has no significant relationship
with the technical efficiency of small and medium banks, it is positively related to large bank efficiency
at a 5% significance level. None of the regulatory and supervisory policies are significantly related to
the pure technical efficiency of medium-sized banks.
Columns 4 to 6 in Table 9 summarise the regression results on scale efficiency for different-sized
banks. The official supervision power and market discipline are significantly related to the scale
efficiency of small banks. Additionally, market discipline is also positively related to large-sized banks’
scale efficiency. There is no significant impact of bank regulation and supervision on medium-sized
banks. Compared to the pure technical efficiency, scale efficiencies of banks are less affected by
regulation and supervision. The deposit insurance scheme is positively related to the small-sized
banks’ scale efficiency at the 10% significance level.
The relationships of regulation and supervision and bank technology gap ratio are shown in
columns 7 to 9 in Table 9. All four regulatory and supervisory indicators are positively related to the
technology gap ratio of small banks. For large banks, official supervisory power is positively associated
with the technology gap ratio. The medium-sized banks’ technology gap ratios are not affected by any
of the regulation and supervision indicators.
Table 9. Bootstrap truncated regression results: Different-sized bank groups.

(Columns 1–3) (Columns 4–6) (Columns 7–9)
Variables Pure Technical Efficiency Scale Efficiency Technology Gap Ratio
Small Medium Large Small Medium Large Small Medium Large
CAPITAL 0.0757 *** 0.0171 0.0045 0.0202 −0.0067 −0.0185 0.0839 ** 0.0172 −0.0052
(2.9635) (1.0773) (0.4986) (1.1485) (0.3498) (1.1844) (2.4592) (0.8045) (0.3606)
SPPOWER 0.0100 0.0011 0.0081 ** 0.0310 *** −0.0019 −0.0014 0.0301 ** 0.0115 0.0186 ***
(0.9637) (0.1682) (2.1796) (2.9870) (0.2548) (0.3157) (2.0693) (1.4927) (3.9669)
MKDSPL 0.2654 *** −0.0521 −0.0582 0.1474 * 0.0507 0.1194** 0.5115 *** −0.0102 0.0492
(2.6430) (0.7393) (1.3764) (1.8145) (0.6432) (2.0539) (3.0413) (0.1138) (1.0305)
ACRS 0.0398 * −0.0010 0.0053 0.0229 −0.0230 0.0039 0.0711 * 0.0124 0.0150
(1.8009) (0.0700) (0.6782) (1.3651) (1.3770) (0.3400) (1.9474) (0.6400) (1.4497)
DEP_INS −0.0671 −0.0296 −0.0042 0.0676* −0.0079 −0.0093 −0.0989 −0.0052 0.0157
(1.2391) (0.8829) (0.2506) (1.6483) (0.2217) (0.4429) (1.2326) (0.1297) (0.7598)
Ownership
STATE 0.0194 −0.0185 0.0106 0.0259 0.0139 −0.0105 0.0077 0.0011 0.0073
(0.6326) (1.1080) (1.3256) (0.9567) (0.6755) (1.3329) (0.1578) (0.0628) (0.9588)
Bank-specific
EQTA 0.3548 *** 0.0093 0.1332 0.2146 *** 0.1388 −0.5144 ** 0.3188 *** −0.0429 −0.2266
(4.3773) (0.0592) (0.6794) (3.7184) (1.2648) (2.3111) (2.9380) (0.2479) (1.1389)
LIQTA −0.0703 −0.1182 ** −0.1880 *** 0.0058 0.0468 −0.0002 −0.1221 −0.2056 *** −0.1114 **
(0.9504) (2.0130) (3.6610) (0.1367) (0.8438) (0.0052) (1.1268) (2.8275) (2.4968)
Country-specific
GDP_growth 0.0117 ** −0.0041 −0.0006 −0.0060 * 0.0004 0.0021 0.0234 *** −0.0068 ** −0.0031
(2.2114) (1.4506) (0.3212) (1.6692) (0.1465) (1.1888) (2.8115) (2.1655) (1.4766)
INF 0.0019 0.0032 * −0.0005 0.0059 ** 0.0070 *** 0.0038 ** −0.0071 −0.0100 *** −0.0030 **
(0.6360) (1.6664) (0.3732) (2.2244) (3.0186) (2.3868) (1.4969) (4.1489) (2.2244)
HHI 0.0844 0.2166 0.0134 0.3355 0.2716 −0.1003 0.0661 −0.2207 −0.2000 ***
(0.2927) (1.4563) (0.1662) (1.3775) (1.4077) (1.2404) (0.1283) (1.4719) (2.7198)
PrCrGDP −0.0005 −0.0013** −0.0007* 0.0002 −0.0005 −0.0009** −0.0004 −0.0015** −0.0004
(0.4741) (2.4554) (1.7261) (0.2486) (0.9370) (2.4464) (0.2328) (2.3008) (1.0400)
INST_ENV −0.1690 *** −0.0534 0.0559 * 0.0351 −0.0643 −0.0944 *** −0.2765 *** 0.0462 0.0597 **
(2.7521) (1.1384) (1.9522) (0.6148) (1.3926) (3.4470) (3.2453) (0.8689) (2.3521)
Constant −0.7725 1.5390 *** 1.2107 *** −0.7807 0.7517 0.4405 −2.3958* 1.1413 0.4574
(0.9831) (2.9823) (4.0531) (1.1678) (1.2258) (1.0432) (1.7966) (1.6180) (1.2343)
sigma 0.1270 *** 0.0885 *** 0.0558 *** 0.1095 *** 0.0995 *** 0.0699 *** 0.1480 *** 0.0868 *** 0.0501 ***
(19.2102) (16.7169) (11.2685) (25.7747) (30.6333) (25.7247) (12.9352) (11.7518) (17.0131)
Country
Yes Yes Yes Yes Yes Yes Yes Yes Yes
Dummy
Year Dummy Yes Yes Yes Yes Yes Yes Yes Yes Yes
Notes: This table reports the bootstrap truncated regression results in different-sized bank groups. Z-statistics are
shown in parentheses. The pure technical efficiency, scale efficiency, and technology gap ratio scores are estimated
in Model 4. See Table A1 for definitions and information on the independent variables. *, **, *** indicate 10%, 5%
and 1% levels of significance, respectively. Source: Author’s calculations.
5.4. Robustness Check: Tobit Regression and Fractional Logit Regression

This study employs the Simar and Wilson (2007) bootstrap truncated regression model to examine
the relationship between bank regulation, supervision, ownership and bank efficiency. In previous
studies, different types of regression models were used in the second stage after obtaining the DEA
efficiency estimates. For example, most of the previous studies (Pasiouras 2008a; Sufian 2009; Gardener
et al. 2011; Ab-Rahim et al. 2012; Huang and Fu 2013) used the Tobit regression to identify determinants
of bank efficiency. Alternatively, Ramalho et al. (2010) suggested that fractional logit regression is the
most natural way for second-stage regression.
To check the robustness of our regression results, we applied both fractional logit regression and
Tobit regression in the second stage, to examine the relationship between regulation, supervision,
ownership and bank performance (see Table 10). In both regressions, we used technical efficiency,
scale efficiency, and technology gap ratio in Model 4 as the dependent variables, with the same
independent variables as in the previous analysis.
Columns 1 to 3 in Table 10 show the results of fractional logit regression, which are similar to the
results in Table 8. Regulation and supervision are positively related to bank pure technical efficiency
and technology gap ratios. Additionally, market discipline is positively associated with bank scale
efficiency in the Asia-Pacific region. However, we observe that the coefficient estimates in the fractional
logit regression are larger than those in the truncated regression, and there are some variations in the
Z-value compared to bootstrap truncated regression results.
Columns 4 to 6 in Table 10 display the Tobit regression results of bank efficiency. Even though the
coefficients of variables have the same signs, we observe that supervision power and market discipline
are not significantly related to pure technical efficiency. All four regulation and supervision indices
exhibited positive relationships with the technology gap ratio of banks. Similar to the discussion in
Section 5.3, deposit insurance schemes and state ownership were not significantly related to bank
performance in both fractional logit and Tobit regression models.
Table 10. Robustness test results: Fractional logit regression and tobit regression.
Fractional Logit Regression Tobit Regression

Variables Pure Technical Scale Technology Pure Technical Scale Technology
Efficiency Efficiency Gap Ratio Efficiency Efficiency Gap Ratio
CAPITAL 0.2069 *** −0.0081 0.1789 *** 0.0201 *** 0.0010 0.0164 **
(3.6605) (0.2649) (2.8087) (2.8396) (0.1533) (2.5060)
SPPOWER 0.0506 * 0.0269 * 0.1205 *** 0.0026 0.0043 0.0079 ***
(1.7768) (1.7727) (3.8051) (1.0131) (1.1047) (3.2451)
MKDSPL 0.4634 * 0.4098 ** 1.0504 *** 0.0313 0.0680 * 0.0926 ***
(1.9161) (2.3118) (3.6772) (1.2163) (1.8896) (3.3342)
ACRS 0.1274 ** −0.0152 0.2119 *** 0.0132 ** −0.0032 0.0153 ***
(2.3162) (0.4514) (3.1935) (2.3242) (0.4276) (2.5911)
DEP_INS −0.0607 0.0562 −0.0130 0.0049 0.0116 −0.0011
(0.6188) (0.7962) (0.1182) (0.4296) (0.7011) (0.0902)
Ownership
STATE −0.0719 0.0565 −0.0997 −0.0103 0.0073 −0.0098
(0.8184) (0.7775) (1.1219) (1.3123) (0.9210) (1.2725)
Bank-specific
BANKSIZE 0.1973 *** −0.146 *** 0.2134 *** 0.0221 *** −0.028 *** 0.0179 ***
(10.6387) (9.7058) (8.7663) (15.0755) (18.8324) (11.9368)
EQTA 2.5618 *** 0.8073 ** 2.2581 *** 0.2827 *** 0.0929 ** 0.1958 ***
(5.8482) (2.4078) (4.6255) (7.5429) (2.4482) (5.5274)
LIQTA −0.6041 ** 0.1807 −0.6323 ** −0.082 *** 0.0269 −0.077 ***
(2.2406) (0.9800) (2.0175) (2.8372) (1.1919) (2.8936)
Table 10. Cont.
Fractional Logit Regression Tobit Regression

Variables Pure Technical Scale Technology Pure Technical Scale Technology
Efficiency Efficiency Gap Ratio Efficiency Efficiency Gap Ratio
Country-specific
GDP_growth 0.0168 −0.0036 0.0172 0.0033 *** −0.0002 0.0051 ***
(1.3993) (0.5275) (1.2214) (2.5957) (0.1132) (3.9388)
INF 0.0102 0.0200 *** −0.031 *** 0.0019 * 0.0032 *** −0.004 ***
(1.4189) (3.7307) (3.5093) (1.8685) (2.8496) (4.3943)
HHI 0.7608 0.5872* −0.0714 0.0670 0.0585 0.0087
(1.2715) (1.6500) (0.1111) (1.4434) (1.0167) (0.2193)
PrCrGDP −0.0075 ** 0.0000 −0.0071** −0.001 *** −0.0001 −0.0006 **
(2.4916) (0.0279) (2.0615) (3.2615) (0.4575) (2.5366)
institutional_env −0.1883 −0.2061 ** −0.1553 −0.0441 ** −0.0287 −0.0086
(1.3395) (2.0546) (0.8973) (2.1493) (1.2977) (0.4657)
Constant −4.4315 ** 1.4683 −9.105 *** 0.3335 * 0.8862 *** −0.0705
(2.1735) (1.0551) (3.6945) (1.6557) (3.0197) (0.3283)
Sigma 0.0810 *** 0.0958 *** 0.0755 ***
(39.7257) (56.2804) (34.1237)
Country Dummy Yes Yes Yes Yes Yes Yes
Year Dummy Yes Yes Yes Yes Yes Yes
Note: This table reports the relationship between bank regulation and supervision on efficiencies of banks
using fractional logit regression (columns 1–3) and ordinary least square regression (columns 4–6). Z-values
are shown in the parenthesis. PTE, SE, and TGR estimates from Model 4 are used as the dependent variables.
Statistically significance at 10% level. *, **, *** indicates 10%, 5% and 1% levels of significance, respectively. Source:
Author’s calculations.
6. Conclusions
This study examined the impacts of off-balance sheet activities on bank efficiency measurement,
and investigated the relationship between regulation, supervision, state ownership and bank efficiency.
Our results showed that omitting off-balance sheet activities while estimating bank efficiency using
bootstrap DEA approach would significantly underestimate the pure technical efficiency and overall
technical efficiency, while overestimating the scale efficiency of banks. Furthermore, we identified the
positive relationship between regulation, supervision, and bank efficiency, especially in small-sized
banks. However, no significant relationship between state ownership with bank performance was
found in this study.
Our findings have imperative policy implications. Firstly, our results have highlighted the impact
of including non-traditional bank activities when measuring bank efficiency. Precise information
relating to bank performance is essential for policy-making decisions, such as capital requirements
and information disclosure. Correctly estimated efficiency could reveal the banks’ intrinsic value and
potential investment return in the future. Such information could further assist investors’ and bank
managers’ decision making. Secondly, regulatory and supervisory authorities could impose customized
regulatory and supervisory policies on different sized banks. While smaller banks benefit more from
stricter policies, regulatory authorities could relax the requirements for medium and large-sized banks
to exploit operational efficiency. Finally, since state ownership is found to be insignificantly related
to bank performance, it could be an appropriate tool for governments to intervene in the banking
industry during financial turmoil to maintain the intermediary function of banks.
There exist several limitations of the current study. First, we used the nonparametric DEA
approach to estimate bank efficiency. Compared to the parametric approaches, the DEA method
assumes the random error to be zero, which could affect the precision of efficiency estimation. Second,
due to the data availability of bank regulation and supervision, we used the 2007 and 2011 World Bank
Regulatory and Supervisory Survey to cover the 10-year sample period. Therefore, the timeliness
and frequency of data could have potentially limited the validity of our results. Last, our sample
covered eight countries in the Asia-Pacific region based on data availability. There were five developed
countries and three developing countries. Even though these countries can capture the diversity and
common characteristics of the Asia-Pacific banking industries, questions remain whether our results
can be applied to all banking industries in the region.
In future studies, we recommend different approaches, such as the stochastic frontier analysis
approach, to estimate bank efficiency to avoid potential biases arising from the zero-error assumption
of the DEA approach. Future researchers can collect more detailed bank-specific and country-specific
data from more sample countries. Using these detailed data, future researchers can explore the timely
changes in regulatory policies and their impacts on bank performance, and provide evidence which
can be used to benefit the stakeholders in all the banks in the Asia-Pacific region.
Author Contributions: Z.Y. contributed to the research design and data analysis, writing, and formal analysis of
the research. C.G. and Z.L. supervised the research. Z.Y. and C.G. helped with the modifying of the manuscript
and final editorial clarifications and corrections. All authors contributed to the writing, reviewing, and correction
of this manuscript.
Funding: This research received no external funding.
Acknowledgments: Baiding Hu has provided valuable insights into the methodology and statistical analysis of
the the study.
Conflicts of Interest: The authors declare no conflict of interest.
Appendix A
Table A1. Definition and data source of variables used in the regression models.
Variables Definition Data Source

Regulation and supervision
Initial and overall capital requirements for banks in
CAPk World Bank (2007, 2011)
country k
Extent of official supervision power to oversee,
SPPOERk monitor, and discipline managers, directors, and World Bank (2007, 2011)
auditors of banks in country k
Information disclosure to regulators, shareholders,
MKDSPLk auditors, and public and whether any credit ratings World Bank (2007, 2011)
are required for banks in country k
Bank activity restrictions in real estate investment,
insurance underwriting and selling, brokering and
ACRSk World Bank (2007, 2011)
dealing securities, and all aspects of mutual fund
industries in country k
Ownership Variable
State ownership of the bank, equals1 when bank is Caculated based on information
Ownershipk,i
state-owned, otherwise 0. from BvD Bankscope
Bank-specific Variables
Bank size, calculated as logarithm of the total assets
Banksizei,k BvD Bankscope
of the bank.
Bank capitalisation, calculated as total equity divided
EQTAi,k BvD Bankscope
by total assets.
Bank liquidity risk, calculated by liquid assets
LIQTAi,k BvD Bankscope
divided by total assets.
Bank operating risk, calculated as off-balance sheet
OBSi,k BvD Bankscope
items divided by total assets.
Bank credit risk, calculated as loan loss provisions
LLPTLi,k BvD Bankscope
over the total loans.
Table A1. Cont.
Variables Definition Data Source

Country-specific Variables
Global Financial Development
GDP_growthk Real GDP growth in the country.
Database
INFk Annual rate of the implicit GDP deflator.
Database
Herfindall Hirschman Index, calculated as sum of
Calculated by author using data
HHIk square for deposit shares for each bank in all banks in
from BvD Bankscope
the country.
PrCrGDPk Bank claims to the private sector to GDP.
Database
Institutional governance index, consists of voice and
accountability, political stability and absence of
Calculated using data from World
INS_ENVk violence or terrorism, government effectiveness,
Governance Indicators database
regulatory quality, the rule of law, control of
corruption.
Table A2. Pairwise correlation between independent variables in the regression.
CAPITAL SPPOWER MKDSPL ACRS DEP_INS STATE BANKSIZE OBS EQTA LLPTL LIQTA GDP_growth INF HHI PrCrGDP INST_ENV
CAPITAL 1
SPPOWER 0.045 * 1
MKDSPL 0.159 * −0.605 * 1
ACRS −0.115 * 0.276* −0.195 * 1
DEP_INS −0.028 0.443 * −0.6268 * −0.4598 * 1
STATE 0.0327 0.063 * 0.0530 * 0.1850 * −0.1857 * 1
BANKSIZE 0.0798 * −0.181 * 0.2173 * −0.0841 * −0.0456 * 0.1107 * 1
OBS 0.0323 −0.008 0.0997 * −0.0077 −0.1063 * 0.0313 −0.0343 1
EQTA 0.0531 * 0.005 −0.005 −0.0643 * −0.0728 * −0.0166 −0.5176 * 0.1393 * 1
LLPTL −0.0767 * 0.128 * −0.0735 * 0.2122 * −0.0966 * 0.1313 * −0.2009 * 0.1486 * 0.1034 * 1
LIQTA 0.0918 * −0.1684 * 0.2815 * 0.0308 −0.3004 * 0.1378 * −0.2498 * 0.1665 * 0.2936 * 0.2042 * 1
GDP_growth 0.0105 −0.123 * 0.4185 * 0.3590 * −0.6253 * 0.2624 * −0.1484 * 0.1336 * 0.1739 * 0.1930 * 0.4659 * 1
INF −0.048 * 0.150 * −0.138 * 0.3437 * −0.178 * 0.2353 * −0.3816 * 0.1099 * 0.2590 * 0.3138 * 0.3962 * 0.4841 * 1
HHI −0.146 * −0.361 * 0.3589 * −0.492 * −0.0829 * −0.0412 −0.0023 0.1325 * 0.1539 * −0.085 * 0.2369 * 0.1600 * 0.0737 * 1
PrCrGDP 0.1333 * −0.696 * 0.6954 * −0.367 * −0.275 * −0.143 * 0.4023 * 0.0626 * −0.126 * −0.255 * 0.0214 −0.0542 * −0.513 * 0.3332 * 1
INST_ENV −0.120 * −0.180 * −0.08 * −0.641 * 0.5179 * −0.3513 * 0.2866 * −0.1868 * −0.2115 * −0.379 * −0.398 * −0.6621 * −0.62 * 0.302 * 0.3866 * 1
Notes: See Table A1 for definitions for variables. * indicates 5% level of significance. Source: Author’s calculation.
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Risk and Financial

Keywords: banks; efficiency; data envelopment analysis; Asia-Pacific; regulations

J. Risk Financial Manag. 2019, 12, 131; doi:10.3390/jrfm12030131 www.mdpi.com/journal/jrfm

2. Overview of Banking Industries in the Asia-Pacific Region

3.1. Efficiency Measurement

3.2. Inclusion of Off-Balance Sheet Activities in Efficiency Estimation

3.3. Bank Regulation and Supervision, and Bank Efficiency

3.4. State Ownership in the Banking Industry

4. Data and Methodology

4.1. Data Sources

4.2. Efficiency Estimation: Bootstrap DEA Approach

Table 1. Input and output specifications for Models 1 to 4.

Model 1 Model 2 Model 3 Model 4

4.3. Bootstrap Truncated Regression Model

PTEk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

SEk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

TGRk,i = β0 + β1 ∗ REGk + β2 ∗ Ownershipk,i + β3 ∗ Banki,k + β4 ∗ Countryk + β5

4.3.1. Bank Regulation and Supervision Variables

4.3.2. State Ownership

4.3.3. Control Variables

5.1. Descriptive Statistics

Variables Mean SD Max Min

Table 3. Descriptive statistics of regression model variables (2005–2014).

Variables Mean SD Max Min

5.2. Bank Efficiency and Non-Traditional Activities

Without Considering Risk With Considering Risk

Without Considering Risk With Considering Risk

Group PTE Meta PTE TGR

5.3. Bootstrap Truncated Regression Results

5.3.1. Impact of Bank Regulation, Supervision, and Ownership on Bank Efficiency

Table 8. Bootstrap truncated regressionrResults: Full sample data.

5.3.2. Regulation, Supervision, and Bank Size

Table 9. Bootstrap truncated regression results: Different-sized bank groups.

5.4. Robustness Check: Tobit Regression and Fractional Logit Regression

Fractional Logit Regression Tobit Regression

Table 10. Cont.

Fractional Logit Regression Tobit Regression

Variables Definition Data Source

Table A1. Cont.

Variables Definition Data Source

Table A2. Pairwise correlation between independent variables in the regression.

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