Regional Bank Efficiency and its Effect on Regional Growth in Normal and Bad Times

The financial crisis affected regions in Europe in a different magnitude. This is why we examine whether regions which incorporate banks with a higher intermediation quality grow faster in “normal” times and are more resilient in “bad” ones. For this purpose, we measure the intermediation quality of a bank by estimating its profit and cost efficiency while taking the changing banking environment after the financial crisis into account. Next, we aggregate the efficiencies of all banks within a NUTS 2 region to obtain a regional proxy for financial quality in twelve European countries. Our results show that relatively more profit efficient banks foster growth in their region. The link between financial quality and growth is valid in “normal” and in “bad” times. These results provide evidence to the importance of swiftly restoring bank profitability in euro area crisis countries through addressing high non-performing loans ratios and decisive actions on bank recapitalization.