Declining cost efficiency as a signal of increasing bank vulnerability: an entropy-based approach

Abstract

The mortgage crisis of 2007/08 has impacted the health of both small and large commercial banks in the financial services industry. The pressing question is how do regulators and bank monitors identify the warning signals of bank vulnerability and bank risk because of weakening credit and asset markets. Linking poor bank performance and efficiency, we employ an information theoretic approach to derive the cost efficiency scores and evaluate the effects of crisis signalling factors such as different types of loans on cost efficiency of the smallest and largest commercial banks.

Notes

¹Refer to FDIC list: http://www.fdic.gov/bank/individual/failed/banklist.html

²Refer to FDIC failed bank list (http://www.fdic.gov/bank/individual/failed/banklist.html)

³1–4 family residential loans refer to housing loans pertaining to housing with 1–4 residential units.