What drives heterogeneity of loan loss provisions’ procyclicality in the EU?

Małgorzata Olszak, Mateusz Pipień, Iwona Kowalska and Sylwia Roszkowska

MPRA Paper from University Library of Munich, Germany

Abstract: This paper documents a large cross-bank and cross-country variation in the relationship between loan loss provisions and the business cycle and explores bank management specific, bank-activity specific and country specific (institutional and regulatory) features that explain this diversity in the European Union. Our results indicate that LLP in large, publicly traded and commercial banks, as well as in banks reporting in consolidated statements’ format, are more procyclical. Better investor protection and more restrictive bank regulations reduce the procyclicality of LLP. Additional evidence shows that moral hazard resulting from deposit insurance renders LLP more procyclical. We do not find support for the view that better quality of market monitoring mitigates the risk-taking behavior of banks. Our findings clearly indicate the empirical importance of earnings management for LLP procyclicality. Sensitivity of LLP to the business cycle seems to be limited in the case of banks which engage in more income smoothing and which apply prudent credit risk management.

Keywords: loan loss provisions; procyclicality; earnings management; investor protection; bank regulation; bank supervision (search for similar items in EconPapers)
JEL-codes: E32 E44 G21 (search for similar items in EconPapers)
Date: 2014-06-20
New Economics Papers: this item is included in nep-ban, nep-cfn, nep-ias and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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https://mpra.ub.uni-muenchen.de/57341/1/MPRA_paper_57341.pdf revised version (application/pdf)

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