The Regulation of Loan Loss Provisioning and Banks' Real Activities

This project examined banks’ disclosures and loss recognition in the global financial crisis and identifies several core issues for the link between accounting and financial stability. The analysis suggests that, going into the financial crisis of 2007/2008, banks’ disclosures about relevant risk exposures were relatively sparse. Such disclosures came later after major concerns about banks’ exposures had arisen in markets. Similarly, the recognition of loan losses was relatively slow and delayed relative to prevailing market expectations. Among the possible explanations for this evidence, the analysis suggests that banks’ reporting incentives played a key role, which has important implications for bank supervision and the new expected loss model for loan accounting. The research also provides evidence that shielding regulatory capital from accounting losses through prudential filters can dampen banks’ incentives for corrective actions. Overall, the analysis reveals several important challenges if accounting and financial reporting are to contribute to financial stability.