Does bank supervision impact nonperforming loans : cross-country determinants using agregate data ?

Boudriga, Abdelkader and Boulila, Neila and Jellouli, Sana (2009): Does bank supervision impact nonperforming loans : cross-country determinants using agregate data ?

Abstract

The paper empirically analyses the cross-countries determinants of nonperforming loans and the potential impact of regulatory factors on credit risk exposure. We employ aggregate banking, financial, economic and legal environment data for a panel of 59 countries over the period 2002-2006. Empirical results indicate that higher capital adequacy ratio and prudent provisionning policy seem to reduce the level of problem loans. We also report a desirable impact of private ownership, foreign participation and bank concentration. Our findings do not support the view that market discipline leads to better economic outcomes and to reduce the level of problem loans. In contrast, all regulatory devices either exert a counterproductive impact on bad loans or do not significantly enhance credit risk exposure for countries with weak institutions, corrupt business environment and little democracy.Our results are interesting for regulators, bankers and investors as well. To reduce credit risk exposure, the effective way to do it is through enhancing the legal system, strengthening institutions and increasing transparency and democracy, rather than focusing only on regulatory and supervisory issues.

• Item Type: MPRA Paper
• Language: English
• Keywords: Banks, Nonperforming loans, Financial system stability, Banking regulation
• Subjects: G - Financial Economics > G2 - Financial Institutions and Services > G28 - Government Policy and Regulation; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages

References

Abrams, R.K. and Taylor, M.W. (2001), "Assessing the Case for Unified Sector Supervision", Working Paper, Risk Management and Insurance International Conference, 2001.

Ahmad, A.S., Takeda, C. and Thomas S. (1999), "Bank loan loss provisions: A reexamination of capital management, earnings management and signaling effects", Journal of Accounting and Economics, Vol. 28, No.1, , pp. 1-25.

Alesina. A. and Rodrik. D. (1994), "Distributive politics and ecoNomic growth", Quarterly Journal of Economics, Vol. 109, No. 2, pp. 465-490.

Arestis, P., . de Paula, L.F., and Ferrari-Filho, F. (2006), "Inflation targeting in emerging countries: the case of Brazil"; In: Proceedings of the 34th Brazilian EcoNomics Meeting, ANPEC, 2006.

Babihuga, R., (2007), "MacroecoNomic and financial soundness indicators: An empirical investigation", IMF working paper, No.115, 2007.

Barth, J.R., Caprio, JR.G. and Levine, R., (2006), "Rethinking Bank Regulation: Till Angels Govern", Cambridge University Press.

Barth, J.R., Caprio, JR.G. and Levine, R., (2004), "Bank Regulation and Supervision: What Works Best?", Journal of Financial Intermediation, Vol.13, pp. 205-248.

Barth, J.R., Dopico, L.G., Nolle, D.E. and Wilcox, J.A., (2002) "Bank safety and soundness and the structure of bank supervision: A cross-country analysis", International Review of Finance, Vol. 3, No. 3-4, pp. 163-188.

Beck, N., (2005), "Multilevel Analyses of Comparative Data: A Comment", Political Analysis, Vol. 13, No.4, pp. 457-458.

Beck, N. and Katz, J.N., (1995), "What To Do (and Not To Do) with Time-Series--Cross-Section Data in Comparative Politics", American Political Science Review, Vol. 89, pp. 634-647.

Beck, N. and Katz, J.N., (1996), "Nuisance vs. Substance: Specifying and Estimating Time-Series-Cross-Section Models", Political Analysis, Vol. 6, pp.1-36.

Beck, T., Demirguc-Kunt, A. and Levine, R., (2003), "Law and finance: why does legal origin matter?", Journal of Comparative Economic, Vol. 31, No. 4, pp. 653-675.

Beck, T., Demirguc-Kunt, A. and Levine, R., (2006), "Bank supervision and corruption in lending", Journal of Monetary Economics, Vol. 53, No. 8, pp. 2131-2163.

Berger, A. N. and DeYoung, R., (1997), "Problem Loans and Cost Efficiency in Commercial Banks", Journal of Banking and Finance, Vol. 21, pp. 849-870.

Besanko, D., and Kanatas, G., (1996), "The Regulation of Bank Capital: Do Capital Standards Promote Bank Safety?", Journal of Financial Intermediation, Vol.5, No. 2, pp. 160-183.

Blum, J., (1999), "Do Capital Adequacy Requirements Reduce Risks In Banking ?" Journal of Banking & Finance, Vol. 23, No. 5, pp. 755-771.

Boubakri, N., Cosset, J.C. and Guedhami, O., (2005), "Postprivatization corporate governance: The role of ownership structure and investor protection", Journal of Financial Economics, Vol. 76, No. 2, pp. 369-399.

Brealey, R.A. and Kaplanis, E.C., (1996), "The determination of foreign banking location", Journal of International Money and Finance, Vol. 15, No. 4, pp. 577-597.

Breuer, J.B, (2006), "Problem bank loans, conflicts of interest, and institutions", Journal of financial stability, Vol. 2, pp. 266-285.

Carothers, T., (1998), "The Rule of Law Revival", Foreign Affairs, Vol 77, No. 2, pp. 95-106.

Clague, C., Keefer, P., Knack, S. and Olson M., (1996), "Property and contract rights under democracy and dictatorship". Journal of Economics Growth, Vol 1, No. 2, pp. 243-276.

Delis, M.D., Molyneux, P. and Pasiouras, F., (2008), "Regulations and productivity growth in banking", working paper, University of Bath School of Management, 2008.

Demirguc-Kunt, A., Detragiache, E., and Tressel, T., ."Banking on the Principles: Compliance with Basel Core Principles and Bank Soundness", Journal of Financial Intermediation, Vol. 17, No. 4, 2008, pp. 511-542.

Demirguc-Kunt, A., Laeven, L. and Levine, R., ."The impact of bank regulation, concentration and institutions on bank margins", Policy research working paper, No. 3030, World Bank, 2003.

Dewatripont, M. and Tirole, J., ."The Prudential Regulation of Banks", MIT Press, Cambridge, 1994.

Donzé, S., ."Bank Supervisor Independence and the Health of Banking Systems: Evidence form OECD Countries", Working paper (London School of EcoNomics, 2006).

Eichengreen, B., (1998), "Globalizing Capital", Princeton University Press, 1998.

Fernandez de Lis, S., Martinez Pagés, J. and Saurina, J., (2000), "Credit growth, problem loans and credit risk provisioning in Spain", working paper, No.18, Banco de Espana, 2000.

Finkel, F., Sabatini, C. and Bevis, G., (2000), "Civic Education, Civil Society, and Political Mistrust in a Developing Democracy: The Case of the Dominican Republic", World Development, Vol. 28, No. 11, pp. 1851-1874.

Fries, S., Neven, D. and Seabright, P., (2002), "Bank performance in transition economies", working paper, European Banks for Reconstitution and Development, No. 76, 2002.

Garciýa-Marco, T., and Robles-Fernàndez, M.D., (2007), "Risk-taking behavior and ownership in the banking industry: The Spanish evidence", Journal of Economics and Business, Vol. 60, No. 4, pp. 332-354.

Godlewski, C.J., (2004), "Bank capital and credit risk taking in emerging market ecoNomies", Journal of Banking Regulation, Vol. 6, No. 2, pp. 128-145.

Haas, R. and Lelyveld, I.V., (2006), "Foreign banks and credit stability in Central and Eastern Europe : A panel data analysis", Journal of Banking and Finance, Vol. 30, No. 7, pp. 1927-1952.

Hafeez, S., UN Global E-government Survey 2003, United Nations Publication.

Hasan, I. and Wall, L.D., (2004), "Determinants of the Loan Loss Allowance: Some Cross-country Comparisons", Financial Review, Vol. 39, No.1, pp. 129-152.

Hay, J.R. and Shleifer, A., (1998), "Private Enforcement of Public Laws: A Theory of Legal Reform?", American Economic Review, Vol. 88, No. 2, pp. 398-403.

Helliwell, J.F., (1994), "Empirical linkages between democracy and economic growth", working paper, National Bureau of Economic Research, No. 4066, 1994.

Hu, J.L., Li, Y., and Chiu, Y.H., (2004), "Ownership and nonperforming loans: Evidence from Taiwan's banks", The Developing Economies, Vol. 42, No.3, pp. 405-420.

Hüpkes, E., Quintyn, M. and Taylor, M.W, (2006), "Accountability arrangements for financial sector regulators", International Monetary Fund, Economic issues, No. 39, Washington, 2006.

Johnson, H. and Wilson, G., .(2000), "Biting the bullet: Civil society, social learning and the transformation of local governance", World Development, Vol. 28, No. 11, pp. 1891-1906.

Kaufmann,D., Kraay , A., and Matruzzi, M., (2008), "Governance matters VII: aggregate and individual governance indicators, 1996-2007", working paper, World Bank Institute, Governance and Anti-Corruption, 2008.

Keech, W.R., (1995), "Economic politics: The costs of democracy", Cambridge University Press, New York.

Klomp, J. and Haan, J., (2008), "Central Bank, independence and financial instability", working paper, University of Groningen, Netherlands, CESifo, Munich, Germany, 2008.

Koehn, M. and Santomero, A., (1980), "Regulation of bank capital and portfolio risk", Journal of Finance, Vol. 35, No. 5, pp. 1235-1244.

Kwan, S. and Eisenbeis, R.A., (1997), "Bank risk, capitalization, and operating efficiency", Journal of Financial Services Research, Vol. 12, No. 2-3, pp. 117-131.

Leblang, D., (1997), "Political democracy and economic growth: pooled cross-sectional and time-series evidence", Britsh Journal of political Sciences, Vol 27, pp. 453-466.

Lensink, R. and Hermes, N., (2004), "The short-term effects of foreign bank entry on domestic bank behaviour: Does economic development matter?", Journal of Banking and Finance, Vol. 28, No. 3, pp. 553-568.

Levine, R., (1996), "Foreign banks, financial development, and economic growth", International Financial Markets, AEI Press, Washington DC, 1996.

Levine, R., (2003), "Bank supervision, corporate finance, and economic development", working paper, University of Minnesota, 2003.

Micco, A., Panizza, U. and Yañez, M., (2004), "Bank ownership and performance", working paper, Inter-American Development Bank, No. 518, 2004.

Novaes, W. and Werlang, S., (1995), "Inflationary Bias and State-Owned Financial Institutions", Journal of Development Economics, Vol. 47, No. 1, pp. 135-54.

Pasiouras, F., (2008), "International evidence on the impact of regulations and supervision on banks' technical efficiency: An application of two-stage data envelopment analysis", Review of Quantitative Finance and Accounting, Vol. 30, pp. 187-223.

Pasiouras, F., Gaganis, C. and Zopounidis, C., (2006), "The impact of bank regulations, supervision, market structure, and bank characteristics on individual bank ratings: A cross-country analysis", Review of Quantitative Finance and Accounting, Vol. 27, No. 4, pp. 403-438.

Pastor, M., and Sung, J.H., (1995), "Private investment and democracy in the developing world", Journal of Economic Issues, Vol 29, pp. 223-243.

Petersen, M.A. and Rajan, R., (1995), "The Effects of Credit Market Competition on Leading Relationships", Quarterly Journal of Economics, Vol. 110, No. 2, pp. 407-443.

Rime, B., (2001), "Capital requirements and bank behaviour: Empirical evidence for Switzerland", Journal of Banking and Finance, Vol. 25, No. 5, pp. 789-805.

Salas, V. and Saurina, J., (2002), "Credit risk in two institutional regimes: Spanish Commercial and Savings banks", Journal of Financial Services Research, Vol. 22, No. 3, pp. 203-224.

Shaffer, M., (2008), "Corruption and the accumulation of problem loans", working paper, University of South Carolina, 2008.

Shleifer, A. and Vishny, R., (1998), "The grabbing hand: Government pathologies and their cures", Harvard University Press, Cambridge, MA, 1998.

Sinkey, J. F. and Greenawlat, M.B., (1991), "Loan loss experience and risk-taking behaviour at large commercial banks", Journal of Financial Services Research, Vol. 5, No. 1, pp. 43-59.

Sobel, A.C., (2003), "National governance and global lending", Journal of International Management, Vol 9, No. 3, pp. 287-304.

Tian, G., (2000), "Property rights and the nature of chinese collective enterprises", Journal of Comparative Economics, Vol. 28, No. 2, pp. 247-268.

Tsebelis, G., (1995), "Decision making in political systems: veto players in presidentialism, parliamentarism, multicameralism and multipartyism", British Journal of Political Science, Vol 25, pp. 289-325.

Wittman, D., (1995), "The myth of democratic failure: Why political institutions are efficient", University of Chicago Press, 1995.