Do Banks provision for bad loans in good times? empirical evidence and policy implications

By Michele Cavallo. 2001

216 citations recorded by the source corpus.

Recent debate about the pro-cyclical effects of bank capital requirements, has ignored the important role that bank loan loss provisions play in the overall framework of minimum capital regulation. It is frequently observed that under-provisioning, due to inadequate assessment of expected credit losses, aggravates the negative effect of minimum capital requirements during recessions, because capital must absorb both expected, and unexpected losses. Moreover, when expected losses are properly reflected in lending rates, but not in provisioning practices, fluctuations in bank earnings magnify true oscillations in bank profitability. The relative agency problems faced by different stakeholders, may help explain the prevailing, and often unsatisfactory institutional arrangements. The authors test their hypotheses with a sample of 1,176 large commercial banks - 372 of them in non-G10 countries - for the period 1988-99. After controlling for different country-specific macroeconomic, and institutional features, they find robust evidence among G10 banks, of a positive association between loan loss provisions, and banks' pre-provision income. Such evidence is not confirmed for non-G10 banks, which on average, provision too little in good times, and are forced to increase provisions in bad times. The econometric evidence shows that the protection of outsiders' claims - the claims of minority shareholders in common law countries, and of fiscal authorities in countries with high public debt - on bank income, has negative effects on the level of bank provisions.

Subfields: Accounting, Finance

View Paper: https://www.semanticscholar.org/paper/809d6f47131ed09550d0b64dbdac95b45347ad5b

How researchers see this paper

The researchers whose trusted networks rank it highest, strongest advocate first. Every researcher gets a different order.

In Accounting

In Finance

Citations in the corpus

Banks’ procyclical behavior: Does provisioning matter? (2008, background): “Some studies have empirically studied the economic cycle as a determinant of loan loss provisions (see Pain (2003) for UK banks, Fernandez de Lis et al. (2001) for the Spanish case, Cavallo and Majnoni (2001), Laeven and Majnoni (2003) and Bikker and Metzemakers (2005)).”
Cross-country determinants of bank income smoothing by managing loan loss provisions (2008, background): “Given these arguments, we expect ANTIDIRECTOR and 3 Cavallo and Majnoni (2001) also uncover evidence of the influence of the legal and regulatory framework on LLP.”
Credit Cycles, Credit Risk, and Prudential Regulation (2006, background): “5 See Crockett (1997) for a good summary of many of the former arguments.”
Bank Loan Loss Provisions Research: A Review (2017, background): “Commonly used deflators include: total assets (see, Cavallo & Majnoni, 2002, pp. 319e342; El Sood, 2012; Bouvatier et al., 2014; Curcio & Hasan, 2015; Ozili, 2015), beginning total assets (see, Kanagaretnam et al., 2010; Kilic et al., 2012), beginning total loans (see, Bushman & Williams, 2012),…”
Bank Profitability During Recessions (2012, background): “Hence, following Cavallo and Majnoni (2001), we specify for the lending rate in year t: (4) , , e l t f t Lr r c f k= + + + .”
Bank provisioning behaviour and procyclicality (2005, background): “The model of Cavallo and Majnoni (2002) specifies the gross loan loss provisions as γE(d)L, see below equation (1).”
Bank Income Smoothing, Ownership Concentration and the Regulatory Environment (2014, unknown): “In order to examine how a bank’s ownership structure and the regulatory environment might affect the way it can use discretionary LLP to smooth its income, we build on an empirical baseline panel specification that is close to those in Greenawalt and Sinkey (1988), Cavallo and Majnoni (2001), Bikker”
The Provisioning Experience of the Major UK Banks: A Small Panel Investigation (2003, result): “A similar result was also found in the study by Cavallo and Majnoni (2001). However, the demand for credit seems likely to fall when aggregate demand in the economy is weakening.”
Loan loss provisioning and economic slowdowns: too much too late? (2002, methodology): “Based on data for individual US banks, Greenwalt and Sinkey (1988), Collins et al. (1995), and Ahmed et al.”
Banks’ riskiness over the business cycle: a panel analysis on Italian intermediaries (2007, unknown): “8 Valckx (2003), ECB (2001), Cavallo and Majnoni (2002) use a static model only; Salas and Saurina (2002) prefer the dynamic equation, while Pain (2003) estimates both the static and the dynamic specifications.”