The Relationship between Inefficiency, Risk and Capital: Evidence from Commercial Banks in ASEAN

This study examines the relationship between inefficiency, risk and capital in ASEAN banking. We test whether bank inefficiency is related to risk taking and its capital position. In this study, measures of inefficiency, risk, and capital are based on accounting ratios. Data for the study includes eight countries in Association of South East Nations (ASEAN): Indonesia, Malaysia, Thailand, the Philippines, Singapore, Cambodia, Brunei and Vietnam. The panel data is taken from Bankscope database for the period 2003 to 2008. A three-stage least squares (3SLS) method is employed to capture endogeneity between inefficiency, risk, and capital and to avoid simultaneous bias for estimated coefficients when they are estimated separately. In the first stage of analysis, INEFF is regressed against CAP, RISK, SIZE and OBSTA. In the second stage of analysis, RISK is regressed against CAP, INEFF, SIZE and NLTA. In the third stage of analysis, CAP is regressed against RISK, INEFF, SIZE, ROA and IRC. In the inefficiency equation, the results indicate that CAP and SIZE are negatively related to inefficiency. However, RISK, surprisingly, is not significant. On the risk equation, the results indicate that CAP and INEFF are negatively related with risk. On the capital equation, there is negative relationship between CAP and RISK but not with INEFF