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From Incurred to Expected Loss: Implications for Bank Lending

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Abstract

The Great Recession prompted a shift in accounting standards for banks’ loan loss provisioning from an incurred loss approach to an expected credit loss approach. This paper develops and calibrates a dynamic banking model featuring a recursive ratings-migration structure for loan credit quality to evaluate the impact of the new standards on bank performance. We quantify the implications for bank lending, including its increased sensitivity to economic conditions, and examine the trade-offs involved in using Basel III’s countercyclical capital buffer as a stabilizing policy tool.

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  • Jorge Abad & Daisuke Ikeda & Javier Suarez, 2025. "From Incurred to Expected Loss: Implications for Bank Lending," Working Papers wp2025_2509, CEMFI.
    • Handle: RePEc:cmf:wpaper:wp2025_2509
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    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting

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