Measuring the Technical Efficiency of the Banking Sector in Palestine Using the

Data Envelopment
Analysis Approach

By

Mr. X
Mr..Y
Miss Z

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Table of Contents:

 Abbreviations ..............................................................................................................
 Background .................................................................................................................
 The Importance of the Study .......................................................................................
 Problem Statement ......................................................................................................
Questions ......................................................................................................................
Objectives .....................................................................................................................
 Hypotheses ..................................................................................................................
 Previous Studies ..........................................................................................................
 Research Methodology ................................................................................................
 Time Scale ...................................................................................................................
 Structure ......................................................................................................................
 References ...................................................................................................................

Abbreviations

No. Abbrev. Description

1. DCF Direct Credit Facilitation
2. DEA Data Envelopment Analysis
3. FA Fixed Assets
4. OEA Other Earning Assets
5. PMA Palestinian Monetary Authority
6. PTE Pure Technical Efficiency.
7. ROA Return on Assets.
8. TD Total Deposits
9. TE Technical Efficiency.

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Background

Financial institutions in a community can form the core of economic development,

because of different reasons such as: (Scott & Timothy 2006)

 Provide money for personal borrowings

 Finance business sectors
 Lend governments and other huge projects
 Help in assessing and carrying out the government monetary and economic
policies
 Provide a wide variety of financial services

Therefore, banks play a vital role in developing the different economic sectors,
through them the stream of money are managed and controlled, investment
opportunities are utilized and channels of funds can target productive and profitable
projects. (Ismail 2004)
Based on that, the efficiency of the financial institutions is crucial for the whole
economy, bank failures become a threat on the banking system, to meet that risk of
failure, several models and techniques were developed to evaluate and analyze the
banks performance.
Most of the evaluation models use the financial ratios analysis (profitability ratio,
burden ratio, efficiency ratio .etc) and all of the ratios used to make comparison with
the peers.
A key point is that it become increasingly difficult to evaluate economic entities based
on reported financial statements because managers can manipulate them to disguise
potential problems (Scott & Timothy 2006). A relatively new model was developed
and employed to measure the relative efficiency for banks performance, this model
called Data Envelopment Analysis (DEA).
Recently most of the studies focus on the developed economies fore example Drake
and Hall (2003), Cavallo and Rossi (2002), Maudos et al (2002), most of these studies
examined the banking sector efficiency in the developed countries. Berger and
Humphrey (1997) surveyed 130 studies that have employed 130 frontier analysis in

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21 country, only 8 were done in the developing countries and it seems none of them
conducted in Palestine.
By the end of 2005 the number of bank in The Palestinian territories raised to 22 (10
national and 12 foreign) banks, with 137 (63 national and 74 foreign) branches.
PMA.org (2007)

The Importance of Study

The importance of this study is driven from the following points:

 Since there is no well-developed capital and debt market in Palestine, the

majority of the investments and savings are through the banking system, and
for the public interest, it is valuable to find out TE of each bank and for the
banking sector as a whole.
 The banking system in the developing countries like Palestine is facing
increasing competition due to the globalization of the financial system, so it is
important for the banks to realize the factors of challenge and means to
respond to them.
 The impact or the pass-through of the central bank (PMA in Palestinian case)
policies depends on the competitive structure and efficiency of the banking
system, the study will help in assessing the banking sector efficiency and the
sources of inefficiency (technical or scale inefficiency), that will provide a
helpful background to PMA in this regard.
 To find out new insights on banking activities evaluation, new approach other
than the conventional approach (financial ratios analysis) and to help in the
proper merging between the two approaches when ever it’s possible, in other
words, to add knowledge to the science of banking evaluation and analysis.

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Problem Statement
As stated in the background the financial institution are very important to the
development of economy and play a crucial role in planning the monetary policy in
any state, the research problem could be summarize in the following points:
 It become increasingly difficult to evaluate economic entities based on
reported financial statements because managers can manipulate them to
disguise potential problems (Scott & Timothy 2006).

 According the researcher knowledge, there are no previous studies handled the
subject of technical efficiency in Palestine.

 Data envelopment analysis (DEA) is receiving increasing importance as a tool

of evaluating and improving the performance of manufacturing and service
operations. It has been extensively applied in the performance evaluation and
benchmarking of schools, hospitals, bank branches, production plants, etc
(Charnes et al., 1994), the model could identify new problems in operation and
new insight to improve efficiency.
Accordingly the study aims to investigate the technical efficiency (TE) of banks
working in Palestine, which means to determine the relative efficiency for the banks
working in Palestine and to assess the efficiency among the banks base on their
ownership and philosophy or culture (national, foreign) and (Islamic and commercial)
banks.
The study also aims employ the DEA approach to measure the relative efficiencies of
the banks working in Palestine. DEA is recognized as a modern approach of assessing
the performance of organizations and their functional units, this approach entered in
several academic areas (management science, operational research, economics and
mathematics) and had been applied in different fields and sectors (industry, banking,
agriculture, education and health care)

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Research Questions
There are several question should be answered by research, these questions are:
1. What are the efficiency scores of the banks working in Palestinian territories?
2. What is the source of technical inefficiency in the banking sector in Palestine?
3. What are the variables to be improved and the required movements
(improvements) for inefficient banks to improve their technical efficiency?
4. What are the features of the so-called efficient and inefficient banks?
5. Employing the PTE as score of efficiency, is there equality of ROAs between
different groups of efficient and inefficient banks in Palestine?

Research objectives
1. Measuring the efficiency scores for the banks operating in Palestine using the
DEA model
2. Indentifying the proper improvements needed by inefficient banks in
Palestine.
3. Finding out the source of technical inefficiency in the banking sector in
Palestine (the technical inefficiency referred to Pure technical inefficiency or
Scale inefficiency)
4. Identifying the features of the so-called efficient and inefficient banks
5. Finding out if there is equality of Return On Assets (ROAs) between different
groups of efficient and inefficient banks in Palestine.

Research Hypothesis
 There are no differences in efficiency scores among different banks based on
the DEA approach.
 The banks in Palestine are working at their optimal scale and the source of
inefficiency is only technical.
 There are no common features for so called efficient and inefficient banks
working in Palestine.
 There is equality of ROAs between different groups of efficient and inefficient
banks in Palestine.

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Previous Studies

According to the researcher knowledge this study is the first study in Palestine . As
mentioned previously in the background section, Berger and Humphrey (1997)
surveyed 130 studies that have employed 130 frontier analysis in 21 country, only 8
were done in the developing countries. So we can imagine how rare such studies in
the Arab world and hence all of our literature sources will be foreign sources, herein
below some of past studies and articles:
1- Ismail M. (2004), the aim of this study is to measure the technical efficiency of the
Malaysian commercial banks and to identify the characteristics of the so called
efficient banks, the study found that the average pure technical efficiency score is
93%, and by ownership it found that foreign banks more efficient than local banks.
2 – Robert M. (2003), the aim of the study is to investigate the relative efficiency
level of the large UK retail banks during the period 1983-1995. It finds that the mean
efficiency level are low in comparison to past studies and it finds that scale
inefficiencies dominate pure technical inefficiencies and less big banks are more
likely to report technical inefficiency.
3 – Kent M. (2005): the study seeks to examine the technical efficiency of the
commercial banks in Malaysia, the study found that main source of the productivity
growth is technical change rather than improvement in efficiency and foreign banks
are more efficient than domestic banks.
4 – Allen and Robert (1997): this paper examined the intersection between problem
loan literature and bank efficiency literature, the results were ambiguous concerning
whether or not researchers should control for problem loans in efficiency estimations.

Methodology
 The research will adopt both of the known research approaches, the deductive
and inductive research approaches. The deductive approach through
examining the research assumptions (hypothesis) and the inductive approach
through studying the system and collecting more information for further
analysis

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  The research will use the multi-methods to find out the research results and
conclusion, the research will apply the DEA technique (which is non statistical
technique) to measure the relative efficiency for the banks and it will examine
the results or efficiency scores by using statistical model (regression analysis)
to find out if there is statistical relation with banks profitability.
 Regarding the data collection, the research will obtain primary data from
banks' financial statements, banks administrative report and from the
Palestinian Monetary Authority (PMA).
 The study sample will include 16 banks of working banks in Palestine (21
Bank) covering 4 years period (2002-2005), the study will be cross sectional
study and not time series study.

Model inputs and outputs:

Regarding the appropriate inputs and out puts to be employed by DEA model for
banks, there is debate and there are two main approaches that can be used to
determine the bank inputs and outputs
Intermediate approach: By the approach, the selection made based on the bank's
assets, liabilities. Bank assets including labor represent the inputs, and liabilities
represent the outputs.
Production approach: which considers the bank as normal company or producer, and
hence the inputs are the physical elements such as labor and capital and all other
assets and liabilities are outputs, this approach argued that all deposits should be
treated as output since they are produced by capital and labor.
In the research, the first approach will be adopted (intermediate approach) because
from the research point of view, it is more representative of research objectives and it
measures the efficiency of operation rather than capital investment efficiency.

Research variables (5 variables)

Inputs:

1. Labor represented by the number of employees (LAB)

2. Fixed Assets (FA)
3. Total Deposits (TA) …. Including demand, saving and time deposits

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 Outputs:

1. Direct Credit Facilitation (DCF) ….including loans

2. Other Earning Assets (OEA) ……. mainly investments in stocks

Timescale

September October November December

Activity 2018 2018 2018 2018
W3 W4 W1 W2 W3 W4 W1 W2 W3 W4 W1

Review literature
Finalize objectives
Draft literature review
Review methodology literature
Choose research strategy
Agree formal access to data
collection
Collecting data
Data analysis
Witting the first draft of the
report
Witting the second draft of the
report
Writing final project report

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Research structure
The research is consist of five sections
1. Section One: Introduction (includes What you are doing, why you are doing
and how it is different from earlier research) [Minimum 30 to 40 citations
should be here)]
Suggested format for an introduction:
• Introduce the area of research
• Review key publications
• Identify any gap in the knowledge or questions which have to be answered
• Your hypotheses
• Your aims and objectives, including a brief description of the methodology
• How is your research beneficial and to whom.

2. Chapter Two: Theoretical part of the study (includes literature review)

3. Chapter Three: Data & Methodology (includes research questions, objectives,
hypothesis, and methodology)
4. Chapter Four: Findings and Analysis (implementing the model and analyzing
the results)
5. Chapter Five: Conclusions and Recommendations

References (Should be APA 6th Edition)

Allen R., Athanassopoulos A., Dyson, R.G. and Thanassoulis, E., (1997):
Weight restrictions and value judgments in data envelopment analysis,
evolution, development and future directions, Annals of Operations Research
73, 13-34.
Berger, A.N., and Humphrey, D.B. 1997. “Efficiency of financial institutions:
international survey and directions for future research”, European Journal of
Operational Research, 98, pp. 175-212.
Cavallo, L., and Rossi, S.P.S. 2002. “Do environmental variables affect the
performance and technical efficiency of the European banking systems? A
parametric analysis using the stochastic frontier approach”, the European
Journal of Finance, 8, pp. 123-126.

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Drake, L., and Hall, M.J.B. 2002. “Efficiency in Hardy, D.C., and di Patti,
B.E. 2001. “Bank re form and bank efficiency in Pakistan”, IMF Working
Paper, WP/01/138.
Ismail M. (2004): A DEA analysis for bank performance in Malaysia,
Working Paper, Aston University, UK.
Kent K. and Ismail, M. (2002): Efficiency and Productivity Growth of
Domestic and Foreign Commercial Banks in Malaysia, Working Paper,
Cardiff University, E2006/2.

Maudos, J., Pastor, J.M., Perez, F., and Quesada, J. 2002. “Cost and profit
efficiency in European banks”, Journal of International Financial Markets,
Institutions and Money, 12, pp. 33- 58.
Robert M. Webb. 2003 "Levels of efficiency in UK retail banks: a DEA
window analysis", international journal of the economics of business, 10, pp
305-322.
Scott S. MacDonald and Timothy, W. Koch (2006): Management of Banking
(sixth edition), Thomson Corporation, USA.
http://www.PMA.org Accessed on (13May 2007-10:46)

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