The Impact of SFAS No. 114 on the Linear Information Dynamic for Commercial Banks

The Impact of SFAS No. 114 on the Linear Information Dynamic for Commercial Banks Increase (decrease) in loan loss provisions would decrease (increases) bank earnings, but increase (decreases) regulatory capital. Previous studies have separately documented earnings and capital management behavior via loan loss provisions by commercial banks. However, it is difficult to isolate a bank's demand for increasing earnings from its demand for regulatory capital because earnings is a source of capital. Based on the objective bank function, this study investigates the impact of SFAS No. 114 on the information content of loan loss provisions in relation to both earnings quality and capital adequacy in a linear information dynamic framework. Test results show that the association between market value with loan loss provisions became significantly stronger for commercial banks in the post- than in the pre-adoption period. As a result, SFAS No. 114 is also found to positively affect the association of market value with both bank earnings and regulatory capital through the clean surplus relation because of the higher value relevance of loan loss provisions. The findings thus provide empirical evidence that SFAS No. 114 has significantly complemented banking regulations in enhancing (reducing) the (dispersion from the) accounting measurement construct of loan loss provisions. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Quantitative Finance and Accounting Springer Journals

The Impact of SFAS No. 114 on the Linear Information Dynamic for Commercial Banks

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Publisher
Kluwer Academic Publishers
Copyright
Copyright © 2004 by Kluwer Academic Publishers
Subject
Finance; Corporate Finance; Accounting/Auditing; Econometrics; Operation Research/Decision Theory
ISSN
0924-865X
eISSN
1573-7179
D.O.I.
10.1023/B:REQU.0000049319.18268.37
Publisher site
See Article on Publisher Site

Abstract

Increase (decrease) in loan loss provisions would decrease (increases) bank earnings, but increase (decreases) regulatory capital. Previous studies have separately documented earnings and capital management behavior via loan loss provisions by commercial banks. However, it is difficult to isolate a bank's demand for increasing earnings from its demand for regulatory capital because earnings is a source of capital. Based on the objective bank function, this study investigates the impact of SFAS No. 114 on the information content of loan loss provisions in relation to both earnings quality and capital adequacy in a linear information dynamic framework. Test results show that the association between market value with loan loss provisions became significantly stronger for commercial banks in the post- than in the pre-adoption period. As a result, SFAS No. 114 is also found to positively affect the association of market value with both bank earnings and regulatory capital through the clean surplus relation because of the higher value relevance of loan loss provisions. The findings thus provide empirical evidence that SFAS No. 114 has significantly complemented banking regulations in enhancing (reducing) the (dispersion from the) accounting measurement construct of loan loss provisions.

Journal

Review of Quantitative Finance and AccountingSpringer Journals

Published: Dec 14, 2004

References

  • Bank Loan Loss Provisions: A Reexamination of Capital Management, Earnings Management and Signaling Effects
    Ahmed, A. S.; Takeda, C.; Thomas, S.
  • Do Analysts and Auditors Use Information in Accruals?
    Bradshaw, M. T.; Richardson, S. A.; Sloan, R. G.
  • Discretionary Behavior with Respect to Allowances for Loan Losses and the Behavior of Security Prices
    Beaver, W. H.; Engel, E. E.

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