The Interaction Effect in a Nonlinear Specification of Bank Lending: A Replication and Reexamination of the Peek and Rosengren (2005) Results on 'Unnatural Selection'

19 Pages Posted: 19 Mar 2020

See all articles by Hitoshi Inoue

Hitoshi Inoue

affiliation not provided to SSRN

Kiyotaka Nakashima

Independent Economist

Koji Takahashi

Bank for International Settlements (BIS)

Date Written: February 22, 2020

Abstract

Peek and Rosengren (American Economic Review 2005; 95) suggested the mechanism of ``unnatural selection,'' where low-capitalized Japanese banks increase credit to low-quality firms because of their motivation to pursue balance sheet cosmetics. In this study, we replicate their estimation results, using loan-level data from 1994 to 1999, and thereby reexamine this mechanism in terms of the interaction effect in a nonlinear specification of bank lending. We demonstrate that their results imply that Japanese banks allocated lending from viable firms to unviable ones regardless of the degree of bank capitalization, being not consistent with the balance sheet cosmetics hypothesis.

Keywords: interaction effect, nonlinear specification, probit model, forbearance lending

JEL Classification: G01, G21, G28

Suggested Citation

Inoue, Hitoshi and Nakashima, Kiyotaka and Takahashi, Koji, The Interaction Effect in a Nonlinear Specification of Bank Lending: A Replication and Reexamination of the Peek and Rosengren (2005) Results on 'Unnatural Selection' (February 22, 2020). Available at SSRN: https://ssrn.com/abstract=3542044 or http://dx.doi.org/10.2139/ssrn.3542044

Hitoshi Inoue

affiliation not provided to SSRN

Koji Takahashi

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

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