The Random Stochastic Cost Frontier and Policy Implications: Evidence from the Mexican Banking Sector, 1998-2006

Resumo / Abstract:

A random stochastic cost frontier model is specified for a sample of Mexican banks operating between 1998 and 2006. Our results show that the random frontier accounts for heterogeneity between banks, which can be explained by variation in bank outputs. The non-random frontier performs poorly and confounds heterogeneity with inefficiency. We demonstrate that the choice of frontier model influences the design of public policy. Following Berger et al (2005), we create a set of indicators to identify changes in bank governance. The relationships between changes in bank governance and bank cost confirm that the consolidation process significantly lowers costs at Mexican banks with foreign bank acquisition of domestic banks lowering costs more effectively than domestic M&A. Our results support the decision made by the Mexican authorities to change policy in 1995 and to facilitate foreign bank penetration.

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