The effect of capital ratio on lending: Do loan-loss provisioning practices matter?

Małgorzata Olszak, Patrycja Chodnicka-Jaworska (), Iwona Kowalska () and Filip Œwita³a ()
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Patrycja Chodnicka-Jaworska: Department of Banking and Money Markets, Faculty of Management, University of Warsaw, Poland
Iwona Kowalska: Department of Mathematics and Statistical Methods, Faculty of Management, University of Warsaw, Poland
Filip Œwita³a: Chair of Market Economy, Faculty of Management, University of Warsaw, Poland

No 22017, Faculty of Management Working Paper Series from University of Warsaw, Faculty of Management

Abstract: This paper examines the impact of bank capital ratios on bank lending by comparing differences in loan growth to differences in capital ratios at sets of banks that are clustered based on loan-loss provisioning practices. Applying fixed-effects estimator to sample of all commercial banks operating in Poland and using a unique quarterly dataset covering the period of 1999:4-2012:4 we find that loans growth is particularly capital constrained in poorly-capitalized banks, during both non-recessionary and recessionary periods. Lending of banks with low procyclicality of loan-loss provisions (LLP) is not affected by capital ratio in recessionary periods. Low-procyclicality of LLPs does not make poorly- capitalized banks’ lending immune to recessionary capital crunch. In contrast to common view, profit stabilizing practices achieved through income-smoothing do not make banks’ lending resilient to capital constraints during recession, as we find that high income-smoothing banks seem to suffer from increased capital pressures in their lending. This effect is also present in well-capitalized banks. The implication of our research is that decision-makers implementing new accounting standards for loan-loss allowance (the Expected Credit Loss approach) may not be effective in reducing procyclicality of capital regulation, if they will attempt to reduce recessionary capital constraints solely through profit-stabilizing income-smoothing.

Keywords: lending; capital ratio; procyclicality; earnings management; income-smoothing; capital management (search for similar items in EconPapers)
JEL-codes: G21 G28 G32 M41 (search for similar items in EconPapers)
Pages: 47 pages
Date: 2017-12
New Economics Papers: this item is included in nep-acc and nep-ban
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