Research

Working papers

Forward-Looking Loan Loss Provisioning
Under Imperfect Forecasts

Job Market Paper

Awards:

J. Michael Harrison Doctoral Prize for Impactful Contribution to Theory
FASB Emerging Scholar Finalist
Community Banking Research Conference Emerging Scholar Award, sponsored by the Federal Reserve, the Conference of State Bank Supervisors, and the Federal Deposit Insurance Corp

Presentations: Credit Scoring and Credit Control Conference (University of Edinburgh), American Accounting Association Annual Meeting (Poster presentation), Trans-Atlantic Doctoral Conference (LBS), Chicago Booth Workshop

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Abstract

The current expected credit losses (CECL) model stipulates that loan loss provisions should be forward-looking. I document that banks increasingly rely on macroeconomic forecasts following the implementation of CECL, yet most forecasts are not rational. I build a theoretical model to study the implications of CECL for bank provisions, lending, aggregate output in the economy, and bank stability. Additionally, I derive the optimal minimum capital requirement within the CECL framework. I first explore the implications under rational expectations and then consider bank expectations influenced by Kahneman and Tversky's (1972) representativeness heuristic to capture the empirical properties of macroeconomic forecasts. My model demonstrates that the representativeness heuristic results in overreaction to news, leading to underprovisioning, excessive lending and risk-taking in reaction to good news, and the opposite in reaction to bad news. Due to timely loan loss provisioning under CECL, the optimal capital constraint is time-varying in response to the macroeconomic conditions and the underlying risk in the economy. In contrast to rational expectations, the representativeness heuristic necessitates a binding capital constraint even when bank equity is high and the social cost of bank failure is low.

Timely Loan Loss Provisioning and Aggregate Cost of Capital

Abstract

I study the effect of timely loan loss provisioning on banks’ demand for raising capital and the cost to do so. I develop a theoretical model that captures how updates in expected credit losses affect the cost of raising capital when banks violate the minimum capital requirements and need to raise capital ex post. I find that CECL makes the banking system more capitalized in case of a recession, but may lead to a unnecessary capital issuance in the face of negative news. I also study the effect on the bank’s cost of capital when the bank moves away from relying on idiosyncratic information about its loan portfolio towards relying on macroeconomic information. Timely loan loss provisioning and higher reliance on macroeconomic information promotes stability of the banking system. However, as macroeconomic news affects all banks, provisions become more correlated. Reliance on macroeconomic information also leads to spillover effects: bad news from one bank raise the cost of equity issuance of other banks.

Paying for CSR: Firm and Peer Group Effects

(with Maria Khrakovsky)

Abstract

We examine the effects of the inclusion of Corporate Social Responsibility (CSR)-related incentives in executive compensation contracts on firm performance. We build on the findings of prior work by using a larger, more representative sample of public firms and leveraging compensation peer groups to study peer effects. We find that, after adopting CSR-based compensation, firms' CSR performance improves but their financial performance worsens. These effects differ between “leader” and “follower” firms within compensation peer groups and, while “leader” firms do not experience a differential CSR performance effect, they perform better financially compared to “follower” firms. We consider two channels through which CSR-based compensation affects financial performance: through better alignment of incentives or through signaling to stakeholders the firm's commitment to CSR. We find support for both channels.

Disagreement or Misunderstanding? A Field Experiment on Parent-Child Differences over School Choice

(with Alexandr Lenk)

Presentations: Advances in Field Experiments Conference, 2023 North American ESA Meeting, Chicago Booth Behavioral Economics Lab

Link to pdf

Abstract

Traditionally, it has been thought that differences in parent-child decisions are due to parents intentionally disagreeing with their children’s judgements. We posit a new explanation for these differences that could drive parents to make misinformed decisions: Parents hold inaccurate beliefs about their children’s preferences. We run a field experiment in the high-stakes context of the centralized high school application process in Bulgaria. We find parents underestimate how much their preferred schools differ from their children’s, even for schools that families have previously discussed. We design an informational intervention that conveys children’s actual choices to the parents in a transparent manner: we share with parents their child’s personal ranking of schools. We find that this intervention significantly increases the alignment between children’s school rankings and the finalized application ranking parents ultimately send to the Ministry of Education. Not only do parents prioritize their children’s top choices, but also accommodate for differences in schools with heterogeneous projected career tracks (e.g., vocational vs. college-prep). Through the lens of a novel structural model of weighted choice aggregation, we find that our informational intervention operates both through updating parental beliefs about their child’s ranking as well as making the ranking more salient. Overall, our study demonstrates that learning children’s preferences accurately can impact the school choices of parents in a non-trivial way.

Work in progress

Breaking the Gender Glass-Ceiling Effect in Managerial Positions: The Role of Multinational Firm Structure and Inter-Branch Competition

(with Alexandr Lenk)

Sources of Overreaction to News in Banks’ Loan Loss Allowances

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Research

Working papers

Forward-Looking Loan Loss Provisioning Under Imperfect Forecasts

Timely Loan Loss Provisioning and Aggregate Cost of Capital

Paying for CSR: Firm and Peer Group Effects

(with Maria Khrakovsky)

Disagreement or Misunderstanding? A Field Experiment on Parent-Child Differences over School Choice

(with Alexandr Lenk)

Work in progress

Breaking the Gender Glass-Ceiling Effect in Managerial Positions: The Role of Multinational Firm Structure and Inter-Branch Competition

(with Alexandr Lenk)

Sources of Overreaction to News in Banks’ Loan Loss Allowances

Forward-Looking Loan Loss Provisioning
Under Imperfect Forecasts