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Does uncertainty matter for loan charge-offs?

  • Lepetit, Laetitia
  • Strobel, Frank
  • Dickinson, David G.

Using a stylized real options model, we show that discretion over the timing of charging off a non-performing loan could be economically justified when collateral values are uncertain and there is a chance of loan recovery. The implied hypothesis of an “uncertainty dependence” aspect in loan charge-offs is empirically tested and validated using a panel of European banks. A welfare-maximizing regulator might want to let banks pursue such discretionary loan charge-off behavior, with the problem of distinguishing it from alternative capital management and income smoothing objectives, while transparency-seeking accounting standards setters would presumably not.

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Article provided by Elsevier in its journal Journal of International Financial Markets, Institutions and Money.

Volume (Year): 22 (2012)
Issue (Month): 2 ()
Pages: 264-277

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Handle: RePEc:eee:intfin:v:22:y:2012:i:2:p:264-277
Contact details of provider: Web page: http://www.elsevier.com/locate/intfin

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