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Cyclically Adjusted Provisions and Financial Stability

Pierre-Richard Agénor () and Luiz Awazu Pereira da Silva ()

Centre for Growth and Business Cycle Research Discussion Paper Series from Economics, The University of Manchester

Abstract: This paper studies the extent to which alternative loan loss provisioning regimes affect the procyclicality of the financial system and financial stability. It uses a DSGE model with financial frictions (namely, balance sheet and collateral effects, as well as economies of scope in banking) and a generic formulation of provisioning regimes. Numerical experiments with a parameterized version of the model show that cyclically adjusted (or, more commonly called, dynamic) provisioning can be highly effective in terms of mitigating procyclicality and financial instability, measured in terms of the volatility of the credit-output ratio and real house prices, in response to financial shocks. The optimal combination of simple cyclically adjusted provisioning and countercyclical reserve requirements rules is also studied. The simultaneous use of these instruments does not improve the ability of either one of them to mitigate financial instability, making them partial substitutes rather than complements.

Pages: 51 pages
Date: 2015
New Economics Papers: this item is included in nep-ban, nep-dge and nep-mon
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Working Paper: Cyclically Adjusted Provisions and Financial Stability (2018) Downloads
Journal Article: Cyclically adjusted provisions and financial stability (2017) Downloads
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