Loan Loss Provisioning in OIC Countries: Evidence from Conventional vs. Islamic Banks

Ali, Ashraf and M. Kabir, Hassan and Syed Abul, Basher (2015): Loan Loss Provisioning in OIC Countries: Evidence from Conventional vs. Islamic Banks. Published in: Journal of King Abdulaziz University: Islamic Economics , Vol. 28, No. 1 (January 2015): pp. 23-59.

Abstract

Using a sample of 291 banks from 35 OIC (Organization of Islamic Cooperation) member Muslim countries with 2078 bank year observations from 2003 to 2010, we analyze if bank earning management in terms of Loan Loss Provisioning (LLP hereafter) is affected by the banking nature whether Islamic or conventional, by the bank accounting standards whether rule-based local Generally accepted accounting principles (here after local GAAP) or principle-based International Financial Reporting Standards (hereafter IFRS), and by the bank listing status. We argue that Islamic banks may exhibit lower signs of earning management, as the Sharia’h Supervisory Boards (SSB hereafter) in Islamic banks may work as an additional tier into the governance system. On the use of accounting standard, we argue that banks using IFRS standard may exhibit lower evidence of earning management, as IFRS requires managers to disclose more accounting information compared to local GAAP. We report mixed evidence supporting these arguments.

• Item Type: MPRA Paper
• Language: English
• Keywords: International Financial Markets; Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages; Accounting
• Subjects: G - Financial Economics > G1 - General Financial Markets > G15 - International Financial Markets; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages; M - Business Administration and Business Economics ; Marketing ; Accounting ; Personnel Economics > M4 - Accounting and Auditing > M41 - Accounting

References

Ahmad, M. M., and D. Pandey (2010), Are Islamic banks better immunized than Conventional banks in the current economic crisis? 10th Global Conference on Business & Economics, October 15-16, 2010, Rome, Italy

Ahmed, A.S., Takeda, C. and S. Thomas, 1999, Bank loan loss provisions: A reexamination of capital management, earnings management and signaling effects, Journal of Accounting Economics 28, 1-25

Anandarajan, A., Hasan, I and A. Lozano-Vivas, 2003, The role of loan loss provisions in earnings management, capital management, and signaling: The Spanish experience, Advances in International Accounting, 16: 43-63

Addawe, S. (2012), What are the impacts of the global financial crisis on Islamic banking system and how Islamic bank spared from the crisis? Department of Accounting, Aalto University, School of Economics

Balla, E., and A. McKenna, 2009, Dynamic Provisioning: A Countercyclical Tool for Loan Loss Reserves, Economic Quarterly—Volume 95, Number 4—Fall 2009—Pages 383–418

Bartov, E., S. Goldberg, and M. Kim, 2004, Comparative Value Relevance among German, U.S. and International Accounting Standards: A German Stock Market Perspective. Working paper, New York University

Beaver, W. H., and E. E. Engle, 1996, Discretionary behavior with respect to allowance for loan losses and the behavior of securities prices, Journal of Accounting and Economics, 22, August-December, pp. 177-206

Beest, F. V., 2009, Rules-Based and Principles-Based Accounting Standards and Earnings Management, Nijmegen Center for Economics (NiCE) Working Paper 09-114, December 2009, Institute for Management Research, Radboud University Nijmegen, The Netherlands, http://www.ru.nl/nice/workingpapers

Bouvatier, V. and L. Lepetit, 2006, Banks’ procyclicality behavior: does positioning matter? Centre d’Economie de la Sorbonne Working Paper 2006.35

Bouvatier, V., and Lepetit, L., 2008, Banks’ pro-cyclical behavior: Does provisioning matter? Journal of International Financial Markets, Institutions and Money, Volume 18, Issue 5, December 2008, Pages 513–526

Bouvatier, V., and L. Lepetit, 2010, Effects of loan loss provisions on growth in bank lending: some international comparisons, August 2010

Capkun, V., A. C. Jeny, T. Jeanjean, L. A. Weiss, 2010, Setting the Bar: Earnings Management during a Change in Accounting Standards, Financial Reporting ESSEC-KPMG Centre, Working Paper, September 30, 2010

Chih, H. L., and Shen, C.H., 2005, Investor protection, prospect theory, and earnings management: An international comparison of the banking industry. Journal of Banking and Finance, 29 (2005) 2675–2697

Cortavarria, L., Dziobek, C., Kananya, A., Song, I., 2000. Loan Review, Provisioning, and Macroeconomic Linkages, IMF Working Paper no. 00/195.

Das, A., and S. Ghosh, 2007, Determinants of credit risk in Indian state-owned banks: An empirical investigation” Economic Issues 12, 27-46

Djankov, S., C. McLiesh, and A. Shleifer, 2007, Private credit in 129 countries, Journal of Financial Economics 84, 299–329

Ghayad, R. (2008). Corporate Governance And The Global Performance Of Islamic Banks. Humanomics, 24(3), 207-216.

Ghosh, S., 2010, Provisioning, bank behavior and financial crisis: Evidence from GCC banks, working paper.

Greenawalt, M.B. and J.F. Sinkey, 1988, Bank loan-loss provisions and the income-smoothing hypothesis: An empirical analysis, 1976-1984, Journal of Financial Services Research 1, 301-318.

Healy, P.M. and Wahlen, J.M., 1999, A review of the earnings management literature and its implications for standard setting. Accounting Horizons, 13 (4), 365-383.

Hung, M. and K.R. Subramanyam. 2004. Financial Statement Effects of Adopting International Accounting Standards: The Case of Germany, Working paper, University of Southern California

Karim, R.A.A. (1990). The Independence of Religious and External Auditors: The Case Of Islamic Banks. Accounting, Auditing and Accountability, 3(3), pp. 34-44.

Kim, M.S. and W. Kross, 1998, The impact of the 1989 change in bank capital standards on loan loss provisions and loan write-offs, Journal of Accounting and Economics 25, 69-99

La Porta, R., Lopez-de-Silanes, F., Shleifer, A., Vishny, R., 1997, Legal determinants of external finance. Journal of Finance 52, 1131–1150

La Porta, R., Lopez-de-Silanes, F., Shleifer, A., Vishny, R., 1998, Law and finance. Journal of Political Economy 106, 1113–1155

La Porta, R., Lopez-de-Silanes, F., Shleifer, A., Vishny, R., 1999, The quality of government. Journal of Law, Economics and Organization 15, 222–279

Leuz, C., Nanda, D., Wysocki, P.D., 2003, Investor protection and earnings management: An international comparison. Journal of Financial Economics 69 (3), 505–527

Misman, F. N. and W. Ahmad (2011), Loan Loss Provisions: Evidence from Malaysian Islamic and Conventional Banks, International Review of Business Research Papers Vol. 7. No.4. July 2011 pp. 94-103

Othman, H. B., and H. Mersni (2012), The use of discretionary loan loss provision by Islamic banks and conventional banks in the Middle East region: A comparative study, International Conference on Excellence in Business, Sharjah, United Arab Emirates, 09-10 May 2012

Pérez, D., V. Salas-Fumás, J. Saurina, 2006, Earnings and Capital Management in Alternative Loan Loss Provision Regulatory Regimes, Bank of Spain Working Paper, February 2006

Pérez, D., V. Salas-Fumás, and J. Saurina, 2011, Do dynamic provisions reduce income smoothing using loan loss provisions? Bank of Spain, Working Paper 1118, 2011, Electronic copy at: http://ssrn.com/abstract=1926668

SECURITIES AND EXCHANGE COMMISSION RELEASE NOS. 33-9109; 34-61578, Commission Statement in Support of Convergence and Global Accounting Standards, sec.gov/rules/other/2010/33-9109.pdf

Shleifer, A., and W. Vishny, 2009, Unstable Banking, Journal of Financial Economics, 97: 306-318.

Wahlen, J., 1994, The nature of information in commercial bank loans loss disclosures, The Accounting Review (July): 455-478

Warde, I. (1998). The Role of Shari’ah Boards: A Survey. San Francisco: IBPC Working Papers.