Relative Market Power Hypothesis

The Efficiency/ Relative Market Power Hypothesis

The Efficiency Hypothesis postulates that the profitability or the performance of a bank is hinged on the efficiency of that bank. Banks that are relatively efficient compared to competitors, have the power to maximise their profits through maintaining current sizes and pricing strategies or by reducing prices and expanding their operations. Once the banks’ choose to expand operations, they eventually gain a bigger market share.

The Efficiency Hypothesis, in other word, argues that banks with better management and/or technologies have better performance as reflected by high profits owing to lower cost structures. By extension, those more efficient firms will gain greater market shares, which may result in a more concentrated market. In summary, the Relative Market Power Hypothesis emphasizes that efficiencies lead to large market share and is associated with better performance of the respective bank as it posts high profits. Results by Berger (1991) indicated that cost efficiency has a great influence on banks’ performance.

2.3 Empirical Literature Review

Molyneux and Thornton (1992) explored the determinants of banking sector performance across countries, using the data of 18 European countries. Their

The study further highlighted well capitalised banks have the ability to improve to absorb shocks during crisis and are able to sustain their good performance in after crisis. Berger, 1995, investigated the link between United States of American banks performance with capital to asset ratio, using the return on equity (ROE) as a proxy for performance. The study used the ranger causality model and the results showed that bank performance and capital asset ratio have a positive