Impact of Non-Interest Income on Bank Efficiency: Evidence from Sri Lanka

Abstract

Purpose: To explore the impact of non-traditional activities on both the cost and profit efficiency of banks as the measures of banks’ performance for the context of Sri Lanka.

Design/Methodology/Approach: This study has considered systemically important banks in Sri Lanka as the sample and a panel data set for the period 2009 to 2019 obtained from annual reports of the banks. Estimation of bank efficiency was based on Stochastic Frontier Analysis (SFA). The efficiency of banks estimated using Cobb-Douglas and Translog Frontier forms.

Findings: The efficiency scores indicate that profit efficiency of banks have decreased due to the involvement in non-traditional activities while the cost efficiency of banks have increased due to the involvement in non-traditional activities.

The analysis shows that technology development has a significant impact on profit inefficiency under both cobb-douglas and translog models, while ATM development has only a significant impact on cost inefficiency under translog model when banks engage in both traditional and non-traditional banking activities. Yet, both profit and cost inefficiency of banks does not influence due to the ownership status of banks under the both models.

Originality: This study contributes to the extant literature by highlighting the impact of inclusion of non-interest income as the secondary source of banks’ income to the banks’ performance in terms of profit and cost efficiencies as existing literature is silent regarding in this aspect.