Working Paper 13-19 Statistics and Econometrics Series 18 June 2013 Departamento de Estadística Universidad Carlos III de Madrid Calle Madrid, 126 28903 Getafe (Spain) Fax (34) 91 624-98-49 BAYESIAN ANALYSIS OF DYNAMIC EFFECTS IN INEFFICIENCY: EVIDENCE FROM THE COLOMBIAN BANKING SECTOR Jorge E. Galán, Helena Veiga and Michael P. Wiper * Abstract Firms face a continuous process of technological and environmental changes that implies making managerial decisions in a dynamic context. However, costs and other constraints prevent firms from making instant adjustments towards optimal conditions and may cause inefficiency to be persistent in time. In this work, we propose a flexible dynamic model that makes possible to distinguish persistent effects in the inefficiency from firm inefficiency heterogeneity and to capture differences in the adjustment costs between firms. The new model is fitted to a ten year sample of Colombian banks. Our findings suggest that firm characteristics associated to size and foreign ownership have negative effects on inefficiency and separating these heterogeneity factors from the dynamics of inefficiency improves model fit. On the other hand, acquisitions are found to have positive and persistent effects on inefficiency. Colombian banks are found to present high inefficiency persistence but there exist important differences between institutions. In particular, merged banks present low costs of adjustment that allow them to recover rapidly the efficiency losses derived from merging processes. Keywords: Banks Efficiency; Bayesian Inference; Dynamic Effects; Persistent Shocks; Heterogeneity; Stochastic Frontier Models. JEL classification: C11; C22; C23; C51; D24; G21 * Galán, Jorge E., Departamento de Estadística, Universidad Carlos III de Madrid, C/ Madrid 126, 28903 Getafe (Madrid), Spain, e-mail: jegalan@est-econ.uc3m.es. Corresponding author. Veiga, Helena, Departamento de Estadística and Instituto Flores de Lemus, Universidad Carlos III de Madrid, C/ Madrid 126, 28903 Getafe (Madrid), Spain. Wiper, Michael P., Departamento de Estadística and Instituto Flores de Lemus, Universidad Carlos III de Madrid, C/ Madrid 126, 28903 Getafe (Madrid), Spain. Acknowledgments: The authors would like to thank Christopher O’Donnell for his discussion of the paper and his valuable suggestions as well as Mike Tsionas and the participants of the 13th European Workshop on Efficiency and Productivity for the comments received. Financial support from the Spanish Ministry of Education and Science, research projects ECO2012- 3401, MTM2010-17323, ECO2009-08100 and SEJ2007-64500 is also gratefully acknowledged.