Accounting versus Prudential Regulation
50 Pages Posted: 13 Nov 2018 Last revised: 1 Dec 2018
Date Written: December 1, 2018
We develop a model to study how accounting and prudential regulations interact to affect banks' incentives to originate safe loans. Prudential regulators impose prudential limits on bank leverage but cannot commit to ex-ante efficient intervention, responding ex-post to accounting information. Our main result is that accounting measurement and capital requirements are tools best used in tandem. We demonstrate how suitably designed measurements can help ease credit and we derive various comparative statics linking bank leverage, quality of accounting information, and regulatory intervention. An application of our analysis is on the current debate on the expected loss provisioning model recently adopted in the financial industry.
Keywords: Prudential Regulation, Accounting Standards, Loan Loss Provisioning
JEL Classification: G21, G28, M41, M48
Suggested Citation: Suggested Citation