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What drives loan losses in Europe?

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Author Info

  • Jokivuolle, Esa

    ()
    (Bank of Finland Research)

  • Pesola, Jarmo

    (Bank of Finland)

  • Viren, Matti

    ()
    (University of Turku and Bank of Finland)

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    Abstract

    We model banks’ loan losses with a panel of European countries for the period 1982–2012 using three country-specific macro variables: output growth shocks, real interest rates, and a measure of excessive private sector indebtedness. We find that a drop in output has an intensified impact on rising loan losses if the economy is excessively indebted. This may explain differences in loan losses in different recessions across time and across countries. For instance, the dramatic output drop in Finland in 2009 did not cause large loan losses compared with the Finnish crisis of the early 1990s because of the more moderate level of indebtedness. Low interest rates during the recent recession may have been another, perhaps the most important, factor mitigating loan losses.

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    File URL: http://www.suomenpankki.fi/en/julkaisut/tutkimukset/keskustelualoitteet/Documents/BoF_DP_1406.pdf
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    Bibliographic Info

    Paper provided by Bank of Finland in its series Research Discussion Papers with number 6/2014.

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    Length: 27 pages
    Date of creation: 30 Dec 2013
    Date of revision:
    Handle: RePEc:hhs:bofrdp:2014_006

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    Postal: Bank of Finland, P.O. Box 160, FI-00101 Helsinki, Finland
    Web page: http://www.suomenpankki.fi/en/
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    Keywords: loan losses; banking crises; indebtedness;

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    1. Gorodnichenko, Yuriy & Mendoza, Enrique G. & Tesar, Linda L., 2009. "The Finnish Great Depression: From Russia with Love," IZA Discussion Papers 4113, Institute for the Study of Labor (IZA).
    2. Sorge, Marco & Virolainen, Kimmo, 2006. "A comparative analysis of macro stress-testing methodologies with application to Finland," Journal of Financial Stability, Elsevier, vol. 2(2), pages 113-151, June.
    3. Kauko, Karlo, 2012. "External deficits and non-performing loans in the recent financial crisis," Economics Letters, Elsevier, vol. 115(2), pages 196-199.
    4. Asli Demirgüç-Kunt & Enrica Detragiache, 2005. "Cross-Country Empirical Studies of Systemic Bank Distress: A Survey," IMF Working Papers 05/96, International Monetary Fund.
    5. Davis, E. Philip & Karim, Dilruba, 2008. "Comparing early warning systems for banking crises," Journal of Financial Stability, Elsevier, vol. 4(2), pages 89-120, June.
    6. Goodhart, Charles & Hofmann, Boris, 2008. "House Prices, Money, Credit and the Macroeconomy," Working Paper Series 0888, European Central Bank.
    7. Marcucci, Juri & Quagliariello, Mario, 2009. "Asymmetric effects of the business cycle on bank credit risk," Journal of Banking & Finance, Elsevier, vol. 33(9), pages 1624-1635, September.
    8. Pesola, Jarmo, 2011. "Joint effect of financial fragility and macroeconomic shocks on bank loan losses: Evidence from Europe," Journal of Banking & Finance, Elsevier, vol. 35(11), pages 3134-3144, November.
    9. Foos, Daniel & Norden, Lars & Weber, Martin, 2010. "Loan growth and riskiness of banks," Journal of Banking & Finance, Elsevier, vol. 34(12), pages 2929-2940, December.
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