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This study adopts a GARCH model to estimate the operational risk of Taiwan's banking industry by the Top-Down method. Based on the approach of Battese and Coelli (1995) we estimate the Trans-log cost model and the inefficient model simultaneously by the Maximum likelihood method. Our empirical result shows that the operational risks have a significantly positive impact on cost inefficiency -that is, regardless of which methods we use for calculation, operational risk drives down economic efficiency. Comparing with the basic index method, the multi-factor model of the Top-Down method is better at analyzing the relationship of operational risk and efficiency.Contribution/ Originality: This study contributes in the existing literature by employing a multi-factor model of Top-Down method to quantify banking operational risk. Furthermore, this is one of the very few studies which examine the relationship between operational risk and "real" bank's performance -cost efficiency.

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