Purpose – The study aims to investigate the relationship between competition and efficiency. Using bank-level data for Indian banks, relationship between competition and efficiency is examined by applying the Granger causality test for the period 1996 to 2011. Design/methodology/approach – Lerner Index is a measure of market power and is applied for estimation of competition. Data envelopment analysis technique is applied for measuring efficiency in the Indian banking system along with the Granger causality test to look at the relationship between competition and efficiency. Findings – Results show an increasing trend for competition for the period 1996 to 2004, and after that there is fall in competitive levels. Granger causality tests show that competition positively effects efficiency and vice-versa. Practical implications – This study gives an insight into the relationship between competition and efficiency, thus providing an alternative view to the structure–conduct–performance paradigm. An efficient banking system can positively impact the growth of an economy and, hence, competition and efficiency are important decision parameters for regulators and could help them in decision-making and policy formulation. Originality/value – This study has covered more than 90 per cent of the banking assets for looking at competition and efficiency in the banking sector. Policymakers can try to improve competitive levels in banking so as to improve efficiency in the banking sector which can further help in developing the investment-savings cycle.

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This article analyzes the evolution of competition in the Indian banking system for the period 1994– 2011. The reform process for the Indian banking sector started in 1992, led by the Narasimhan committee report and thus the period of study is divided into three phases: deregulation and liberalization, consolidation and post-consolidation period. To evaluate competition, we apply two indicators of competition from the theory of industrial organization: concentration indices and Panzar and Rosse’s H-statistic (PRH statistic). The empirical evidence from the PRH statistic does not permit us to reject the existence of monopolistic competition. There is a steady fall in concentration ratios suggesting an improvement in competitive conditions. The PRH statistic suggests a fall in competitive condition during the consolidation phase followed by a revival in competitive conditions during the post consolidation period. This study also helps in understanding the effect of new banks’ entry in the Indian banking sector on the competitive conditions. The results obtained support the decision by Reserve Bank of India to allow entry of new private banks which will help in further infusing competition in the Indian banking sector.