Accounting Discretion, Loan Loss Provisioning and Discipline of Banks' Risk-Taking

Bushman, Robert M.; Williams, Christopher

doi:10.2139/ssrn.1521584

Cited by 158 publications

(252 citation statements)

References 48 publications

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“…Lim et al (2011) andJiménez et al (2012) found that dynamic provisioning rules have indeed been associated with reductions in the procyclicality of credit. Bushman and Williams (2012) found evidence for a cross-country panel of banks that explicit dynamic provisions that capture the extent to which current provisioning anticipates future loan losses appear to enhance discipline of bank risk-taking and thus to mitigate one of the sources of procyclicality. Cerutti, Claessens and Laeven (2015) studied the impact of a broad set of macroprudential policies in a large set of 119 countries over the period 2000-13, while also distinguishing the effects of these policies on different segments of credit 29 Ecuador also adopted a dynamic provisioning regime in June 2012.…”

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confidence: 99%

Reserve Requirements and Loan Loss Provisions as Countercyclical Macroprudential Instruments: A Perspective from Latin America

Silva¹,

Agénor²

2016

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work is licensed under a Creative Commons IGO 3.0 AttributionNonCommercial-NoDerivatives (CC-IGO BY-NC-ND 3.0 IGO) license (http://creativecommons.org/licenses/by-nc-nd/3.0/igo/ legalcode) and may be reproduced with attribution to the IDB and for any non-commercial purpose. No derivative work is allowed.Any dispute related to the use of the works of the IDB that cannot be settled amicably shall be submitted to arbitration pursuant to the UNCITRAL rules. The use of the IDB's name for any purpose other than for attribution, and the use of IDB's logo shall be subject to a separate written license agreement between the IDB and the user and is not authorized as part of this CC-IGO license.Note that link provided above includes additional terms and conditions of the license.The opinions expressed in this publication are those of the authors and do not necessarily reflect the views of the Inter-American Development Bank, its Board of Directors, or the countries they represent.http://www.iadb.org 2016 Abstract * This paper discusses, from an analytical and operational perspective, the use of reserve requirements and loan loss provisions as countercyclical macroprudential instruments. In recent years both of these instruments have been used extensively in Latin America and elsewhere in the world. The first part of the paper sets the stage with a discussion of the rationale, in the presence of financial frictions, for using macroprudential regulation to mitigate financial system procyclicality. The second part reviews the general arguments, as well as the recent empirical evidence for Latin America, associated with the use of reserve requirements and loan loss provisions. The third part provides a normative analysis of the ways through which countercyclical reserve requirements and cyclically adjusted (or, more commonly called, dynamic) provisioning rules should be formulated, independently and jointly, to address concerns arising from procyclicality and financial volatility. Optimal countercyclical rules are discussed from the perspective of how these rules can either minimize a composite measure of economic volatility (combining measures of both macroeconomic and financial volatility) or maximize social welfare. The last part brings together the lessons for policymakers that can be drawn from the analysis. JEL classifications: E51, E58, G28

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Reserve Requirements and Loan Loss Provisions as Countercyclical Macroprudential Instruments: A Perspective from Latin America

Silva¹,

Agénor²

2016

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“…According to their interpretation, banks exploit the flexibility of the internal model of Basel II to underestimate their risks, see also Le Leslé and Avramova (2012) and Das and Sy (2012). Accounting standards provide a further source of manipulation: Huizinga and Laeven (2012) and Bushman and Williams (2012) document accounting discretion during the financial crisis by banks. The Basel III system allows country-specific discretionary measures in the phase-in period, which may introduce a further ''manipulation'' at the country level.…”

Section: Empirical Analysismentioning

confidence: 99%

The Comprehensive Assessment: What lessons can be learned?

Barucci

Baviera

Milani³

2018

The European Journal of Finance

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Analysing the database made available by the European Central Bank and by the European Banking Authority, we evaluate the Comprehensive Assessment (Asset Quality Review and Stress Test) of banks carried out in 2014. In a nutshell, the main results are: i) risk-adjusted capital ratios are negatively related to the Asset Quality Review shortfall, but not to the Stress Test shortfall, whereas the leverage ratio plays a significant role in both cases; ii) the Comprehensive Assessment predominantly concentrated on traditional credit activity rather than on banks' financial assets; iii) the Comprehensive Assessment seems to be characterized by double standards. The Asset Quality Review was severe with banks operating in non-core countries, while medium-sized banks were either riskier or were treated severely in both exercises. The analysis leads to a puzzle: comparatively, the assessment per se led to significant adjustments for solid banks and large shortfalls for weak banks. The puzzle can be resolved by referring to the legacy of the country's former supervisory activity and to the low level of capitalization of weak banks mostly in peripheral countries.

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“…The study also observes that the LLP behaviour of microfinance institutions is procyclical with business cycle fluctuations. Bushman and Williams (2012) investigate the case of forwardlooking loan loss provisioning among banks across 27 countries and find that banks exploit their discretion in forwardlooking provisioning to smooth bank earnings. To sum up, the findings from the cross-country studies suggest that the propensity for banks to use LLPs to influence financial reporting outcomes such as income smoothing is influenced by cross-country differences mainly macroeconomic differences and banking supervision differences across countries, amongst other factors; although cross-country analysis is often criticised for underestimating unique country-specific factors that drives the level of bank LLPs.…”

Section: Asian and Australian Regionmentioning

confidence: 99%

Bank Loan Loss Provisions Research: A Review

Ozili¹,

Outa

2017

SSRN Journal

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We review the recent academic and policy literature on bank loan loss provisioning (LLP) to identify several advances in the literature, to highlight some challenges in LLP research and suggest possible directions for future research with some concluding remarks. Among other things, we observe some major advancement in country-specific and cross-country analyses and substantial interaction between LLPs and existing prudential, accounting, institutional firm characteristic, cultural, religious, tax and fiscal framework. We observe that managerial discretion in provisioning does not necessarily generate LLP estimates that reflect the true and underlying economic reality of banks' credit risk exposure but rather managerial discretion in provisioning is strongly linked to income smoothing, capital management, signalling and other objectives. We also address several issues including the ethical dimensions of income smoothing, motivations and constrains to income smoothing, methodological issues in the bank loan loss provisions literature and the dynamic loan loss provisioning experiment. Moreover, we suggest several avenues for further research such as: finding a balance between sufficient LLPs which regulators want versus transparent LLPs which standard setters want; the sensitivity of abnormal (specific and general) LLPs to changes in equity; the persistence of abnormal LLPs following CEO exit; country-specific interventions that induce LLP procyclicality in emerging countries; investigating LLP behaviour in the post-financial crisis sample period; the impact of Basel III on banks' provisioning discretion; LLP behaviour among systemic and non-systemic financial institutions; etc. We conclude that, because provisioning models are only as good as the assumptions underlying such models as well as the accuracy of the inputs included in such models, regulators need to pay attention to how much discretion banks and lending institutions should have in determining reported provision estimates, and this has been a long standing issue.

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Accounting Discretion, Loan Loss Provisioning and Discipline of Banks' Risk-Taking

Cited by 158 publications

References 48 publications

Reserve Requirements and Loan Loss Provisions as Countercyclical Macroprudential Instruments: A Perspective from Latin America

Reserve Requirements and Loan Loss Provisions as Countercyclical Macroprudential Instruments: A Perspective from Latin America

The Comprehensive Assessment: What lessons can be learned?

Bank Loan Loss Provisions Research: A Review

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