Lending activity and credit supply in Croatia during the crisis

Abstract

Banks sometimes respond to deterioration in the quality of their placements by extending loan repayment periods to borrowers in default and hiding the actual quality of placements, hoping that difficulties of borrowers are only temporary. This practice is termed evergreening or zombie lending. Due to a prolonged recession and stagnation coupled with relatively high share of non-performing loans, such practice may be occurring in Europe nowadays. We use data for Croatia, a country that fought recession for several years, to study the existence of zombie lending practice. We analyse credit supply to individual enterprises in Croatia at the beginning and in the midst of the recent crisis and determine to what extent zombie lending is present and how lending behaviour changed during the crisis period. Results of the estimated regressions indicate that there is evidence that some of the loans being prolonged are the result of zombie lending practices. This implies that policymakers should be aware of the possibility of such a relationship between banks and firms, as well as of its impact, and should try to minimise it.