Turk Ariss View on the Implications of Marketing Power on Banking - Article Example

FINANCIAL INTERMEDIATION (Referee Report) REFEREE REPORT: ON THE IMPLICATIONS OF MARKETING POWER ON BANKING BY TURK ARIS Summary of the Journal Article The journal article is an investigation on how the different levels of marketing power influences banks stability and efficiency. The Journal article explains the case of banks in the developing economies. The article tries to explain the connection between stability and competition by analysing some of the variables that are in the opinion of the author key to the regulators. Variables that are of a central concern according to the article are the bank cost and profit efficiency, the degree of market power and the overall stability of the firm. The author observes that despite a significant loss of cost efficiencies, any increase in the level of a bank’s market power shall lead to greater stability and more profit efficiency. From the conclusions of the article, the author is of the view that increased competition lowers the level of bank stability. The outcome is typical of the developing economies that have deregulated and liberalised their banking systems allowing foreign investors into the economies resulting in increased competition (Turk Ariss, 2010). Arguments and Recommendations The Methodology- the weaknesses and strengths of the methodological approach taken by the author in arriving at the conclusions are discussed and necessary recommendations made for improvement. The journal article is a significant contribution to the field of banking. However, there is an absence of clear information from the article on the scope and coverage of the so-called developing economies. The term developing economies appears too broad when no specific references have been made like those of the US representing the developed economies. Different countries in the same continent will be faced by different circumstances at different times (Belleflamme & Peitz, 2010). Under the methodology used in the article, the effects of the assumption that banks have full efficiency as adopted by the conventional Lerner indices does not feature in the tripod estimation methodology. In estimating the market power, bank stability and efficiency, it appears inadequate in the context of developing economies, to assume that the banks are faced with similar conditions (Dabla-Norris & Floerkemeier, 2007). For the assumption to bear enough weight and stand the ground, the conditions must remain fixed. However, the accurate account is that the volatility of the banking sector and the frequency with which these factors change with time has not been brought to book. It is my feeling that there needs to be such an element in the estimation models adopted that explains the effects of changes in these factors and their frequency of change. For example, the model should explicitly capture the effect of changes in prices over time, which is a critical aspect in determining costs and efficiency (Mills, 2002). The purpose of the article and its underlying objectives must focus on the value it adds to the reader. Nevertheless, the logic of the many assumptions and model formulations does not seem clear to the author. It is highly recommendable that in writing the article, better and less complicated methodologies be formulated for the sake of making the material meaningful. It is easier to lift models from various sources and compile them into an article, but it would sound better if we understood the common sense behind their formulation (Asongu, 2014). The aspect of lapse of time for the data used in the regression model and its ability to reflect the prevailing conditions is a weakness of the methodology adopted (Rudolph, 2006). The methods of boosting banks’ profitability efficiencies as suggested by Turk Aris do not come without a cost (Casu and Girardone, 2009). According to her approach, for banks to improve their profit efficiency, the prices of their products must increase. The increase in prices is then passed on to the customers. The methodology to banks profit efficiency is not very practical because its achievement places an extra burden on the customers. Is there any approach to profit efficiency by the banks that does not necessarily come with such a burden? Alternatively, what could be the actual relationship between market power and cost efficiency? The demonstration through the Learner Index that banks with the highest market power are the least cost efficient requires further validations owing to unexploited effects of profitability efficiency on the customers. Koetter et al. (2012), in their analysis of the relationship between market power and cost efficiency, derived an adjusted efficiency-Learner Index. Their conclusions and evidence on the relationship between competition and both the profit and cost efficiency rejects the quiet life hypothesis adopted in Turk Aris’ methodology. The contribution on the relationship between bank performance and competition by Casu and Girardone (2009) indicates that this relationship is more complex than Turk’s approach may reveal. According to them, the view that competition is unambiguously good is particularly naïve in banking. Approaches that are more flexible should have been used to postulate the relationships between efficiency, market power and the stability of banks. More flexible nonparametric regression techniques could be more appropriate in this particular context (Färe et al., 2014). Turk’s methodology confines the analysis to the average effect on the average bank. The approach becomes excessively complicated due to the unknown serial correlations between the estimated efficiencies. It is particularly worth questioning, to what extents do the models for market power and bank stability as adopted by Turk draw a distinction between commercial banks and savings banks? Recent studies show that there is a distinction between the market power indicators for these different types of firms. A reconsideration of this establishment could make the work more appealing. The relationship between the market power for the entire banking industry and efficiency using the learner index is not clear (Fiordelisi, 2008). The relationship between these variables is shaped by a parameter that is not constant in the distribution. Therefore, the significance of how efficiency is impacted on by bank stability and the market power varies for different banks and hence disqualifies the comparative approach for the developing countries. The models used for estimating the market power, bank stability and efficiency lack an explicit verbal description. The presentation of these models as used in the article requires sophisticated knowledge to understand. The complexity of the models should have been accompanied by an equally elaborative verbal description to ensure that the report conveys the right information to the readers (Fiordelisi, Marques-Ibanez and Molyneux, 2011). However, it appears that the author might have valued the intricacy of the methodological approach at the expense of information conveyance. Simplistic models should be considered for presenting the much valuable and viable idea in a more logical and coherent manner. The complexity of these models appears to result apparently to lack of internal consistency in their application in establishing the different hypothetical relationships. Lack of intuitive and clean notation is observable within the context of the model application. Review of the Data Used The author uses data relating to bank-level financial statements as retrieved from the Bank Scope database for the years 1999-2005. The author states that the data as collected by the International Bank Credit Analysis Ltd has a comprehensive coverage for the majority of the countries. However, the fundamental question to ask is based on the purpose for which the data was collected. If the information was purely obtained to analyse credit related matters, I then suppose its inadequacy to achieve the goals of the objects set by the author. The primary focus of the study is not to analyse credit but rather to examine market power, efficiency and stability. The relationship between credit and the variables of the focus in the study should have been drawn to reveal the reliability and relevance of the data used (Fischer and Reisen, 2008). As a reader, I would wish to raise the concern that the recent most available data should have instead been accessed for a better study. The study takes place in 2010 while the data used relates to the period between 1999 and 2005. Owing to the frequency of changes in banking circumstances, the lapse of time may have had significant impacts on the trend (Hermanns, 2005). Therefore, the data chosen does not have the full capacity to address the topic of study. The nature of the data used to a great extent requires clear and understandable summary statistics that sum up the general idea. Results, Sensitivity analysis and general conclusions Recommendations on the weaknesses and strengths observed in the presentation of results, sensitivity analysis and the conclusions made out of that have been made. The journal article primarily focused on studying the implications of the market power in the banking sector in developing countries. Liberalisation of the banking industries in these countries is considered one of the key factors resulting in competition due to the presence of the foreign firms. However, the author does not appear to have conducted a comprehensive examination of the effect of foreign banks on domestic banks. Such analysis is critical in analysing competition in the local banking markets (Koetter, Kolari and Spierdijk, 2012). A more reliable analysis of competition may, therefore, require the author to review the taxes paid, the overheads, interest margins and profitability (Koetter and Poghosyan, 2009). These should be compared to the foreign banks and the domestic banks operations in the context of developing countries to determine the actual effect of foreign players on competition. The Tripod estimation and empirical results are presented in a recommendable manner. Nonetheless, the values of the parameters dominate the presentations as opposed to a systematic and enjoyable way of analysing the results obtained (Krank and Wallbaum, 2011). The author takes an interest in stating what the results are but merely makes an effort to relate them back to the specific objective of the study. The aim of making the results more appealing should be done with the focus of making the reader understand and grasp the concept. The complexity observed in the presentation of the models is not neutralised by the results caption of the article (Naaborg, 2007). However, the author’s effort to explain the robustness of the results is highly appreciated as it narrows down the impact of the complex approaches used in the methodology. It is important to acknowledge the importance of the findings of the journal article in the practical sense. The discussions and conclusions reached can be of great importance if applied correctly within the context of the banking sector. The journal article is particularly important in helping us appreciate the market power, efficiency, stability and competitiveness in the banking sector both theoretically and in a practical dimension. The subject matter of the journal article is a worthy course and an area that deserves more research to evaluate the modern trends with respect to banking. Advantages of the Study The strength of the journal article is highly manifested in the comprehensive review of recent and older studies in the same and related areas. The cross reference of the different thoughts makes the journal article a reliable source of knowledge (Schaeck and Cihák, 2013). The author’s extensive understanding of the various concepts and model presentations are mainly a strength worth recommending. The topic of the study coupled with the procedural selection of the presentation methods displays the authors substantive knowledge. The journal article represents an innovative identification of the research strategy that in a big way deviates from the traditional approaches that are known to duplicate results (Silva Buston, 2015). Disadvantages of the study The models used in the study are highly intricate and may make the journal article only relevant to people with absolute knowledge in the area of study (Thi Quynh Anh, 2014). Persons with limited knowledge are exempted from the understanding of the logic used in the study. Thus, its importance is minimized. The study is in a significant manner disadvantaged by the data selection as it does not ultimately reveal the purpose of its collection. In the readers view, the reliability of the data used in credit analysis in the subject of this article is dubious. Further, the data may be outdated considering the volatility of the banking sector and the tremendous advancement in technology that affects both the market power, efficiency and stability. A review that takes into account the impact of technological progress on the variables of primary concern in the study may be necessary (Silva Buston, 2015). The study is limited in the analogy of various conditions of banks in different geographical locations and at different times. The influence of the disparities defining individual banks may not have been properly looked into in arriving at the conclusions made. Considering the conceptualization of the variables used in the study, it is observable that there exists a gap between the dependent and the independent variables. Market power, as an independent variable must be moderated by a couple of factors in its ability to influence the dependent variables which are the efficiency and stability. The author should have considered a more comprehensive presentation of the conceptual framework that exhausts the impact and the operation of the intervening and moderating variables in the study. For example, technology could be a proper intervening variable that is exclusively ignored on the assumption that technology differences among the banks fits in the models. The models used in the study have the weakness of the static nature that would be realized if the majority of the variables remain constant ove time. In reality, there should a specific separation in the models between the general self-adjsusting factors and the highly volatile and identifiable variables. The static feature of the models is a misleading assumption that does not reveal the actual nature of the financial sector which is highly dynamic. References Belleflamme, P., & Peitz, M. (2010). Industrial organization. Cambridge, UK: Cambridge University Press. Floerkemeier, H., Dabla-Norris, E., & Floerkemeier, H. (2007). Bank Efficiency and Market Structure. Washington, D.C.: International Monetary Fund. Mills, G. (2002). Retail pricing strategies and market power. Carlton South, Vic.: Melbourne University Press. Rudolph, K. (2006). Bargaining power effects in financial contracting. Berlin: Springer. Asongu, S. (2014). New Financial Intermediary Development Indicators for Developing Countries. SSRN Journal. Casu, B. and Girardone, C. (2009). Testing the relationship between competition and efficiency in banking: A panel data analysis. Economics Letters, 105(1), pp.134-137. Färe, R., Grosskopf, S., Maudos, J. and Tortosa-ausina, E. (2014). Revisiting the quiet life hypothesis in banking using nonparametric techniques. Journal of Business Economics and Management, 16(1), pp.159-187. Fiordelisi, F. (2008). Efficiency and shareholder return in banking. IJBAAF, 1(2), p.114. Fiordelisi, F., Marques-Ibanez, D. and Molyneux, P. (2011). Efficiency and risk in European banking. Journal of Banking & Finance, 35(5), pp.1315-1326. Fischer, B. and Reisen, H. (2008). Liberalising capital flows in developing countries. 2nd ed. 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Foreign bank entry and performance. [Delft]: Eburon. Schaeck, K. and Cihk, M. (2013). Competition, Efficiency, and Stability in Banking. Financial Management, p.n/a-n/a. Silva Buston, C. (2015). Active risk management and banking stability. Journal of Banking & Finance. Thi Quynh Anh, V. (2014). Banking Competition, Monitoring Incentives and Financial Stability. SSRN Journal. Turk Ariss, R. (2010). On the implications of market power in banking: Evidence from developing countries. Journal of Banking & Finance, 34(4), pp.765-775. Read More