Transparency, Accounting Discretion, and Bank Stability

21 Pages Posted: 23 Aug 2016 Last revised: 16 Dec 2017

See all articles by Robert M. Bushman

Robert M. Bushman

University of North Carolina Kenan-Flagler Business School

Multiple version iconThere are 2 versions of this paper

Date Written: 2016

Abstract

This article examines the consequences of accounting policy choices for individual banks’ downside tail risk, for the codependence of such risk among banks, and for regulatory forbearance, or the decision by a regulator not to intervene. The author synthesizes recent research that provides robust empirical evidence for two effects of discretionary accounting policy choices by banks. First, these choices degrade transparency, an outcome that increases financing frictions, inhibits market discipline of bank risk taking, and allows regulatory forbearance. Second, they exacerbate capital adequacy concerns during economic downturns by compromising the ability of loan loss reserves to cover both unexpected recessionary loan losses and the buildup of unrecognized expected loss overhangs from previous periods. The article cautions that bank stability can be undermined by powerful interactions between low transparency and the capital adequacy concerns that stem from accounting discretion.

Keywords: transparency, banks, accounting discretion, delayed expected loss recognition, DELR, regulatory forbearance

JEL Classification: E58, G21, G32, M41

Suggested Citation

Bushman, Robert M., Transparency, Accounting Discretion, and Bank Stability (2016). Economic Policy Review, Issue Aug, pp. 129-149, 2016. Available at SSRN: https://ssrn.com/abstract=2828078

Robert M. Bushman (Contact Author)

University of North Carolina Kenan-Flagler Business School ( email )

McColl Building
Chapel Hill, NC 27599-3490
United States
919-962-9809 (Phone)

HOME PAGE: http://public.kenan-flagler.unc.edu/faculty/bushmanr/

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