Anmerkungen:
Nach Informationen von SSRN wurde die ursprüngliche Fassung des Dokuments July 20, 2021 erstellt
Beschreibung:
Using the construct of “expected loss” component of loan loss provisions as a measure of expectations, we document evidence of departure from rational expectations for the U.S. banking sector. We find that, on average, banks tend to overreact to currently observed loan losses and make systematic errors in forecasts of future loan losses. Using the methodology of diagnostic expectations, we modify a rational expectation general equilibrium set-up to study the implications of such bias on bank-credit cyclicality and financial stability - as measured by volatility of credit-output ratio and credit spread. We show that, in response to an adverse financial shock, overreaction bias accentuates the procyclicality of credit and widens credit spread. Crucially, we also establish numerically that for the recently introduced cyclically-adjusted provisioning rules to have the desired effect on financial stability, the extent of cyclical adjustment may need to be re- vised upwards on account of overreaction in expectations