For generations of bankers, the efficiency ratio has been a shorthand for performance, a simple way to understand how much it costs an institution to generate a dollar of revenue. But as banking strategies diverge, technology reshapes operations, and customer behavior shifts, this once‑straightforward metric has become more complex. In a recent ProSight Financial Association webinar on the future of bank efficiency and profitability, Steve SaLoutos, chief financial officer at ProSight, and Mark Leher, director of product management at Alkami, said that the efficiency ratio still matters, but only when viewed through the lens of strategy, data, and intentional investment.
At its core, the efficiency ratio measures the relationship between expenses and revenues. SaLoutos described it as “how many pennies it takes to create a dollar in revenue,” a calculation that blends non‑interest expense with net interest income and fee income. Its enduring appeal lies in its comparability. Whether a community bank or a large regional institution, every bank can measure itself on the same scale.
That simplicity, however, is also its weakness. The ratio reflects just four numbers—non-interest expense in the numerator and net interest income and non-interest income minus provision for credit losses in the denominator—not the choices behind them. “It doesn’t take into account strategy,” said SaLoutos, who retired from U.S. Bank as Midwest Regional Executive in Consumer and Business Banking after nearly four decades at the bank. Two institutions can post similar ratios while operating in entirely different businesses, with different cost structures, risk profiles, and growth ambitions. Without understanding those differences, the number can easily be misunderstood—or misused.
Leher reinforced that point from a data perspective. Drawing on his experience working with community banks and credit unions, he cautioned against treating any single number as the only goal. Data, he noted, has value only when it is connected to what an institution is trying to accomplish. Metrics that are deeply meaningful for one bank may be irrelevant to another. Context, not just calculation, determines whether efficiency is real or illusory.
Putting efficiency in context
That need for context has grown as banking strategies have become more varied. Decades ago, most banks looked alike: they raised deposits, made loans, operated branch networks, and charged occasional fees. Comparing efficiency ratios made sense because the underlying models were similar. Today, banks are pursuing differentiation through fee‑based businesses, specialized commercial lending, digital‑first strategies, and wealth management. The mix of these determines the expense base and revenues in different ways.
As SaLoutos explained, some institutions deliberately accept higher expenses because those costs support businesses that generate durable fee income. Others operate leaner front offices while depending heavily on lending spreads. In that environment, “what is right for one is not necessarily right for the other,” he said. The efficiency ratio still has meaning, but only when read alongside the institution’s strategic intent.
A persistent misconception about efficiency is that it is synonymous with cost cutting. Both leaders pushed back on that notion. Because the efficiency ratio is a ratio, not a raw cost figure, it can improve even when expenses rise, so long as revenues grow faster. Strategic investment can temporarily inflate the metric while ultimately making the institution stronger.
SaLoutos pointed to digital banking as a clear example. Investments in platforms, infrastructure, or customer experience often push expenses higher in the short term. Over time, though, those investments can lower transaction costs, improve engagement, and open new revenue streams. When that happens, the ratio declines not because costs vanished, but because revenue grew.
Leher framed technology investments as unavoidable rather than optional. At Alkami, he works closely with financial institutions on digital banking adoption, data, and marketing solutions, and he views automation, AI‑driven service tools, and analytics as foundational capabilities. The cost differences underscore why. An in‑branch transaction can cost several dollars, while the same transaction performed digitally costs just a few cents.
Influencing customer behavior through technology
Yet technology’s real power lies not only in cutting costs but in shaping customer behavior and loyalty. In the past, banks built relationships face to face. Today, those relationships must be cultivated digitally and at scale. Data and AI make it possible to understand customer needs, preferences, and profitability in far more precise ways.
“If we can engage with our account holders in meaningful ways,” Leher explained, banks can build brand‑loyal customers rather than purely price‑sensitive ones. Loyalty directly affects efficiency, because customers who value the relationship are less likely to chase marginally higher rates or refinance at the first opportunity, stabilizing funding and lowering long‑term costs.
That data‑driven insight also challenges traditional assumptions about retention. Leher described how early AI models focused on predicting which customers were likely to leave, only to reveal that the most disengaged customers had already made up their minds. “They’d already broken up with you,” he said. Trying to win them back was often expensive and ineffective.
The takeaway was counterintuitive but powerful: holding onto every customer at all costs can itself be inefficient. In some cases, allowing low‑value, disengaged customers to exit gracefully makes more sense than continuing to invest in keeping them. Efficiency improves when institutions concentrate on onboarding and growing relationships with customers who deliver long‑term value.
Despite the rise of digital channels, both SaLoutos and Leher emphasized that physical branches still matter. The role has evolved, but the relevance remains. Many banks were right to close redundant locations, SaLoutos said, yet branches continue to influence customer choice through visibility and engagement—the “billboard effect.”
Increasingly, branches are becoming advisory hubs rather than transaction centers, supporting mortgage lending, business banking, and wealth management. Leher shared examples of data‑informed branch redesigns, where institutions matched branch formats to local customer behavior. In each case, the message was the same: efficiency improves when investment decisions are driven by insight rather than habit.
Back‑office operations present another major opportunity. Automation and AI can significantly improve efficiency in information processing, compliance, and internal workflows. But SaLoutos warned that efficiency efforts must not undercut risk management. Regulatory failures or control weaknesses can quickly negate years of cost savings.
Both speakers ultimately returned to the importance of strategic clarity. Data and technology are powerful tools, but only when guided by a shared sense of direction. Organizations need a clear “North Star” so employees can make decisions that align with long‑term goals rather than short‑term metrics.
Efficiency ratios are likely to continue trending lower across the industry, driven by digital adoption, consolidation, and revenue growth that outpaces expenses. But, as SaLoutos concluded, chasing a better number for its own sake misses the point. “Don’t just look at the number,” he said. “Look at what’s behind the number.” In modern banking, efficiency is no longer just about trimming costs; it is about aligning strategy, investment, and customer value over time.
By: Michael Bender
This article was created from original ProSight content with the assistance of Microsoft CoPilot.
