December 1997
Federal Reserve Bank of Dallas

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Rethinking Bank Efficiency and Regulation: How Off-Balance-Sheet Activities Make a Difference
Thomas F. Siems and Jeffrey A. Clark

Without question, fundamental economic, technological, and political forces have stimulated financial innovation and created new forms of intermediation and other fee-based activities for financial institutions. These activities, which are not traditionally captured on bank balance sheets, have made it even more difficult to get an accurate picture of a bank's condition. Most previous bank-efficiency models and measures are based only on traditional on-balance-sheet figures, which may be misleading as banks embrace nontraditional activities. In this article, Thomas Siems and Jeffrey Clark demonstrate the importance of including a measure for off-balance-sheet activities in these models. In doing so, they no longer find evidence of a statistically significant relationship between profit efficiency and size. This result, contradicting earlier bank-efficiency research, implies that banks of many sizes and types are competitively viable, which strengthens the view that ongoing consolidation in the banking industry will not harm and may improve overall profit efficiency. The authors' results suggest that failing to account for off-balance-sheet activities can have important statistical and economic effects on derived efficiency estimates by seriously understating actual bank output. Moreover, if the traditional efficiency computations are inaccurate, then the traditional regulatory process might be one step behind as well.

Government Guarantees and Banking: Evidence from the Mexican Peso Crisis
Robert R. Moore

What can an examination of Mexico and Argentina during the 1994 peso crisis reveal about the effects of bank supervisory policies? In both countries, the inflation-adjusted value of deposits declined from December 1994 to June 1995. The nature of those deposit flows differed, however. At banks in Mexico, deposit growth and financial strength were unrelated. In contrast, deposit growth in Argentina tended to be higher at financially strong banks than at weak ones. Because government guarantees were more extensive in Mexico than in Argentina, the difference in behavior in the two countries would be expected. Thus, an important cost of government guarantees is their potential for undermining the market mechanism that would otherwise tend to channel funding toward stronger banks and away from weaker ones.