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Predicting Loan Loss Provisions by Including Loan Type Characteristics

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  • Glen Hansen

Abstract

Researchers examining managerial behavior in the banking industry rely almost entirely on the validity of discretionary loan loss provision models in reaching their conclusions. Very little research analyzes the usefulness and effectiveness of discretionary loan loss provision models. This places our knowledge about managerial discretion in the banking industry on a precarious foundation. This paper evaluates the effectiveness of extant discretionary loan loss provision models and a newly developed model. The new model incorporates loan type variables such as real estate, credit card, commercial, and individual loans. The paper analyzes the models with respect to their explanatory power and the persistence of their discretionary and nondiscretionary components. The new model performs the best in explaining loan loss provisions. All of the variables introduced in the new model are highly significant and the nonperforming credit card loan variable is particularly important, as its coefficient is an order of magnitude larger than other nonperforming loan variables. The new model also produces a discretionary component that has persistence characteristics that are most consistent with managerial discretion. The analysis produces a highly effective new model and provides important evidence on extant loan loss provision models.

Suggested Citation

  • Glen Hansen, 2015. "Predicting Loan Loss Provisions by Including Loan Type Characteristics," The International Journal of Business and Finance Research, The Institute for Business and Finance Research, vol. 9(2), pages 53-67.
    • Handle: RePEc:ibf:ijbfre:v:9:y:2015:i:2:p:53-67
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    References listed on IDEAS

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    More about this item

    Keywords

    Loan Loss Reserves; Loan Loss Provisions; Earnings Manipulation;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting

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