MODELING OUTPUT GAINS AND EARNINGS' GAINS

Abstract

In this paper, we examine the potential gains in physical outputs or earnings on outputs from an optimal reallocation of inputs. When some decision-making units (DMUs) face higher input prices than other DMUs, the Farrell decomposition of cost efficiency can potentially indicate that a firm with lower overall costs of production is less efficient than a firm that uses fewer physical inputs, but has higher costs. We extend our gain functions accounting for cases where DMUs face different input prices. An empirical illustration of our method is provided using data on Japanese banks operating during 2000–2003.