Credit Risk Reduction Research Articles

Corporate governance, social responsibility and sustainability commitments by banks: Impacts on credit risk and performance

AbstractWith the increasing pressures to commit to social and environmental issues, banks align with stakeholders' expectations via corporate social responsibility (CSR), and sustainable development goals (SDGs) initiatives. Understanding how these initiatives affect credit risk and performance of banks is crucial for the economy. Relying on the dynamic generalized method of moments and data on Thai listed commercial banks from 2015 to 2020, we find commitments to good governance, CSR and SDGs largely have an opposite effect on bank credit risk and performance. Consistent with stewardship or resource dependency hypothesis, together with stakeholder and good management hypothesis, banks with more female directors, higher levels of anti‐corruption and SDGs commitments are associated with a reduction in credit risk. However, consistent with queen bee hypothesis and agency and trade‐off hypothesis, banks with larger board size, more female directors and higher levels of CSR and SDGs commitments underperform. This apparent contradiction between negative impacts on bank performance and positive impacts on credit risk can be reconciled by understanding the trade‐offs involved, the long‐term focus of sustainability initiatives, leading to a decline in short‐term performance but enhancing their resilience to adverse events, ultimately reducing credit risk. Our findings enable stakeholders to make informed decisions, improve sustainable business practices, and contribute to the long‐term success of banks and the broader society.

Liquidity and Credit Risk in Indonesia: The Role of FinTech Development

This study examines the relationship between liquidity, FinTech development, and credit risk in the Indonesian banking industry. Specifically, it investigates the impact of FinTech, particularly in peer-to-peer lending and payment systems, on credit risk in conjunction with liquidity. The analysis is conducted using panel data from 142 commercial banks in Indonesia over a 15-year period from 2004 to 2018. The results reveal that higher liquidity leads to a reduction in credit risk, whereas FinTech development is found to increase credit risk, particularly in small banks (BUKU 3 and BUKU 4) and private national banks. Notably, this study identifies that the impact of liquidity on credit risk is conditional on the level of FinTech development. Furthermore, the findings suggest that the effects of FinTech on credit risk are contingent on the bank’s characteristics and the economic environment. These results have significant policy implications for designing an inclusive financial framework in the digital era, especially in managing the risks associated with FinTech development. JEL Classification: G231, F31. R10.

The Role of Internal Audit in Credit Risk Management in Commercial Banks

This study focused on assessing the role of internal audit in credit risk management in commercial banks in Kosovo. Methodology: The methodology used was quantitative, involving data collection through a structured questionnaire for internal auditors and bank loan analysts in Kosovo. The survey aimed to gather information about their practices, adherence to Institute of Internal Auditors standards, and the organization’s credit risk management structure and responsibilities. The Chi-Square test was applied to test the hypotheses. Study Findings: Internal audit affects the reduction in credit risk and the definition of existing credit policies. Also, a positive relationship was found between bank size and the approach used in auditing, and the organisation of credit policies and credit risk management in commercial banks in Kosovo. Originality: Through this scientific paper we can present real and consistent results regarding the role of internal audit in credit risk management in commercial banks in Kosovo. Extracting data from the questionnaire and adhering to international standards on auditing leaves room to draw competent conclusions and recommendations in this area.

Peran Good Corporate Governance dalam Menurunkan Credit Risk pada Bank yang Go Public di Bursa Efek Indonesia

This study aims to examine and analyze the role of good corporate governance in moderating the influence of the loan to deposit ratio, capital adequacy ratio, inflation and gross domestic product on the reduction of credit risk in banking companies that go public on the Indonesia Stock Exchange. The population in this study are all companies going public on the Indonesian Stock Exchange. The sampling technique used purposive sampling, with the criteria for banking companies going public in 2008-2021, so that 308 observations were obtained. The type of data is panel data which is a combination of cross section data and time series data, so the statistical technique uses E-views software. After passing the classic assumption test and conducting tests to choose the best results, the results show that the loan to deposit ratio has an effect on credit risk, but the capital adequacy ratio, inflation and gross domestic product have no effect on credit risk. In addition, GCG strengthens the influence of the loan to deposit ratio in reducing credit risk, but GCG actually weakens the influence of the capital adequacy ratio in reducing credit risk.

ESG Performance and Credit Risk in Latin America

Previous studies suggest that the environmental, social and governance performance of companies helps to build a stronger image and reputation, thus providing better financial performance. However, the adoption of environmental, social and governance (ESG) practices as a tool for financial risk management is still little explored, especially in undeveloped economies. This research seeks to fill this gap by investigating whether the adoption of ESG practices reduces credit risk in publicly traded companies in Latin America. The results, obtained through an ordered logistic regression, considering the rating of the companies as a dependent variable and the indices of the ESG dimensions, obtained by the Refinitiv base, as explanatory variables, provide evidence that ESG practices are not being considered for the assignment of credit risk ratings from Moody’s and Fitch agencies. Thus, ESG practices are not helping to reduce credit risk, especially when we consider Argentine and Peruvian companies. The results are robust, even when considering the capital structure, profitability, leverage, size, and asset turnover. Thus, the article contributes by showing that even with the advances of credit rating agencies in adopt ESG indicators, it is still not possible to observe an impact on credit risk reduction, as evidenced by the literature.

Impact of Geographical Diversification on Credit Risk of Microfinance Organizations in Armenia

This paper analyzes the existence of relationship between credit risk and the geographical diversification of financial institutions, originating from emerging countries. Due to economic unstable situation in the world caused by Covid-19, credit portfolios of banks and MFIs caused negatively which in some situations can lead to default. In the current situation, it became necessary to discover new approaches to credit risk management and new researches to be done. For this purpose, financial indicators of MFIs operating in Armenia were evaluated and Pearson analysis of MFIs data, risks & profitability efficiency calculation was made to take out impact of diversification of MFIs on credit risk reduction. Both international literature and practical data of MFIs operating in Armenia were identified. Another research was made for taking out the number of branches and credit risk correlation. Our findings show that geographic diversification is statistically significant with the expansion of gross loans. In contrast, empirical results suggest that the geographical diversification of MFIs does not have a significant correlation with the size of the credit risk reserve, which means that the representation of MFIs in different regions in the form of branches will not always lead to credit risk reduction, and in some cases may lead to operational risks and additional costs. We adopt cost funding and assets size variables impact assessment evaluation through instrumental variables method. Our results confirm the endogenous nature of those variables with risk level of MFIs.

The more the better? Information sharing and credit risk

Estimating correctly the borrower credit risks is the task of particular –and growing- importance for the banks all around the globe. Formal information sharing mechanisms are aimed to reduce information asymmetry in the credit markets and to enhance the precision of those estimates. In the academic literature, however, the answer to the question of whether more detailed borrower information accumulated and shared by credit bureaus and credit registries is always associated with higher quality of bank credit portfolios and lower credit risks is not completely unambiguous. More credit information disclosed by information intermediaries tend to result into the weaker disciplinary effect of credit history, which means higher credit risks. At the same time, the accuracy of assessing the creditworthiness of borrowers grows due to an increase in the predictive power of scoring models, which leads to a reduction in credit risk. In this paper we make a first attempt to examine the nonlinearity of this effect. We study the relationship between the depth of the credit information disclosure and the stability of the banking sector in terms of credit risks. Based on data on more than 90 countries for 2004–2020, we show that the relationship between disclosure and credit risk is non-linear: we observe the lowest levels of credit risk at minimum and maximum levels of disclosure depth. We analyze the influence of the country institutional quality and financial development on the nature of the relationship. We show that credit risks decrease with increasing depth of disclosure by credit bureaus and credit registers in in a high-quality institutional environment and in well-developed financial markets.

Transnational Banking Supervision, Distance-to-Distress and Credit Risk: the SSM Case

ABSTRACT We assess the impact of adopting a transnational supervisor on the distance-to-distress and credit risk of large and complex banks, exploring the establishment of the Single Supervisory Mechanism (SSM) in 2014 as a quasi-natural experiment. Using a differences-in-differences approach, we compare SSM banks vis-à-vis banks with a similar size and complexity operating in European countries outside the SSM. Our results suggest that adopting a transnational supervisor increases the distance-to-distress, particularly for banks operating in countries with larger banking sectors, higher market concentration and greater supervisory discretion. We also show that SSM banks reduced loan loss reserves and NPLs significantly more than non-SSM banks, but only among the most capitalized banks – which is consistent with the notion that well-capitalized banks are better able to weather haircuts induced by credit risk reduction initiatives. Interestingly, we find that SSM banks from countries with greater supervisory discretion saw their NPLs increase in the first years of the SSM, which could reflect the elimination of national idiosyncrasies in credit risk accounting. In general, the evidence presented in our paper suggests that transnational supervision bears a superior ability to increase the distance-to-distress, reduce credit risk, and harmonize supervisory practices among large and complex banks.

The Reduction of Credit Risk in the Health Care Industry in China: Are We Returning to the Pre-COVID-19 Era?

This study aims to evaluate the changes in the credit risk of the health care industry in China due to the COVID-19 epidemic by the modified KMV (named by Kealhofer, Mcquown, and Vasicek) model to calculate the default distances. We observe that the overall default distance mainly first decreased and then increased before and after the COVID-19 epidemic control in China; after the epidemic was controlled, the overall credit risk was reduced by 22.8%. Specifically, as shown in subdivided industries, health care equipment and health care facilities have larger credit risk fluctuations, while health care suppliers, health care distributors, and health care services have smaller fluctuations. These results can contribute to our understanding of why the COVID-19 epidemic in China could be controlled earlier, and software facilities are more important than hardware facilities in public health safety. Our methodological innovation is to use the GARCH (generalized autoregressive conditional heteroskedasticity) model and threshold regression model to modify the important parameters of the KMV model. This method has good accuracy in the Chinese environment.

Climate change commitment, credit risk and the country's environmental performance: Empirical evidence from a sample of international banks

AbstractThis paper analyses whether banks with a greater commitment to climate change issues, proxied by the climate change score from the Carbon Disclosure Project (CDP), experience an impact on their credit risk and whether this relationship is moderated by the environmental performance of the country where the bank is located. For these purposes, a panel data analysis is carried out on a large sample of international listed banks over the period 2011–2019. Our findings suggest that the commitment to climate issues lowers the risk level of bank loans when banks have a medium‐high level of attention to these issues. The country location of the bank does play a key role: In countries with better environmental performance, credit risk reduction takes place at lower levels of climate change commitment. This study provides important implications for the actions that bank managers, regulators and practitioners can enact.

THEORETICAL AND METHODOLOGICAL BASIS OF MANAGEMENT OF THE BANK INVESTMENT PORTFOLIO IN THE CONDITIONS OF THE RUSSIA-UKRAINE WAR AND AFTER THE QUARANTINE VIRAL PANDEMIC OF COVID-19

The types of investments used in the formation of the investment portfolio were supplemented and expanded. The principles of formation and use of the foundations of managing the investment portfolio of a commercial bank and the purpose of its strategic management were studied and augmented. It is justified that in the process of forming an investment portfolio in commercial banks, their investment attractiveness growths, which also leads to an raise in financial stability and makes it possible to increase their assets. It is noted that the efficiency and profitability of using the investment portfolio depends on the quality of performance of such functions of its management, namely: stabilization of the bank profits regardless of the phases of the business cycle; reduction of credit risk in the portfolio of bank loans; diversification of such loans taking into account the geographical coverage of clients; maintaining the level of liquidity; using a portfolio as collateral; insurance of banking activity against losses as a result of changes in exchange rates and interest rates; ensuring the flexibility of the bank portfolio of assets; increasing the financial indicators of the bank balance thanks to the quality of securities. The main goal of the formation and use of the commercial bank investment portfolio is determined, which is to ensure the implementation of its investment strategy by selecting the most effective and safe investment projects and financial instruments. It was established that the investment portfolio should be formed considering their current profitability; rates of capital cost growth; the risk of their value changing over time; financial instruments for managing such a portfolio. It has been proven that the effectiveness of the formation and use of an investment portfolio depends on the choice of its management strategy; influence of internal and external factors; an innovative approach to the speed of reaction of management personnel to such changes and the ability to constantly adjust the strategic management process; getting out of crisis situations with the least losses in the process of managing the investment portfolio.

An Assertive Machine Learning Model for Rural Micro Credit Assessment in Peru

The rural population in Peru has limited access to the financial system due to the high cost of credit and the high risk (default rates) caused by the informal sector. Thus, it is necessary to improve the assertive microcredits loans in favor of the rural economy. The Peruvian model is based mainly on evaluation achieved by experts, whose main tasks are to evaluate and verify clients requesting these microcredits. Currently, these tasks are performed manually and subjective to the expert’s judgment. This work proposes to find the highest level of assertiveness for the credit granting process and the consequent reduction of credit risk using several Machine Learning models. These models considered significant variables of the microcredit evaluation process in rural areas, testing techniques such as SMOTE and K-fold and, evaluating the models using some metrics, such as Accuracy, Precision, Recall, F1 Score, AUC ROC. The LightGBM model, based on decision trees, achieved an excellent level of assertiveness, with a 96.20% loan success rate. The results to reduce the delinquency rate prove that it is optimal to use technological tools such as machine learning models to support decision-making by experts of credit risk assessment in rural areas.

Carbon neutrality, bank lending, and credit risk: Evidence from the Eurozone

The development of a green financial intermediation channel is imperative to achieve zero-carbon economies. In this study, we assess the impact of carbon-neutral lending on the credit risk in the Eurozone. We employ quarterly data for a sample of 344 lending institutions of 19 member states spanning over ten years from 2011 to 2020. Using two specific credit risk measures, the findings show that the exposure to carbon-neutral lending is negatively related to the default risk. The results remain consistent for the various size sorts, depicting that regardless of the bank size, the impact of green financing on the credit risk is the same. We attribute the credit risk reduction to the lower volatility of the borrowers' earnings and cash flows emanating from their sustainable business model. As a consequence of lower credit risk, financial institutions can benefit from lower loan loss provisions and economic capital requirements. This incentive is vital to increase the carbon neutral credit and contribute towards pro-environmental goals.

Ways to Increase the Loan Income of Commercial Banks

Relevance of the topic. Since loans have the highest share in the structure of assets in universal commercial banks, income from loans plays an important role in shaping their income base. In turn, the change in the level of return on loans is directly related to changes in the quality of the bank's loan portfolio. Therefore, the analysis of the quality of the loan portfolio allows to identify problems associated with increasing the profitability of loans.The purpose of the study is to develop scientific proposals aimed at increasing the profitability of loans of commercial banks of the Republic of Uzbekistan.Results. The article substantiates ways to ensure a stable level of interest income from loans in the gross profit of commercial banks; the expediency of increasing the profitability of loans by ensuring that the level of reserve allowances for loan losses is at the level generally recognized in international banking practice.Practical significance. The proposals developed in the course of the research can be used in the development of measures aimed at increasing the profitability of loans of commercial banks.Research limitation. The low level of diversification of the loan portfolio of large commercial banks of the Republic of Uzbekistan hinders the reduction of credit risk in their activities.

Non-interest Income, Credit Risk and Bank Stability: Evidence from Vietnam

This study examines the impact of non-interest income on bank riskiness captured by two dimensions of credit risk and bank stability. Based on a panel of Vietnamese banks during the period 2007–2017 and a dynamic approach estimated by the generalised method of moments (GMM), we find that: (1) banks more involved in non-interest income activities have less credit risk, but higher bank instability; (2) the decomposition of bank instability indicates that risk-adjusted profitability and capital buffer corresponding to risk-taking are adversely affected by non-interest income; and (3) private banks could gain more diversification benefits of credit risk reduction, while the drawback effect of income diversification on bank stability is lower for state-owned banks. Our findings exhibit the double-edged nature of the shift toward non-interest from interest income, but we have no evidence to support the notion that non-interest income drives bank stability through the transmission impact of credit risk. The study clarifies the ongoing debates about the safety and soundness of income diversification in emerging markets.

مدى فاعلية إدارة الائتمان المصرفي للحد من المخاطرات الائتمانية في المصارف الفلسطينية: دراسة تطبيقية على بنک فلسطين The Effectiveness of Bank Credit Management on Risk Reduction in Palestinian Banks: applied Study on Bank of Palestine

هدفت الدراسة إلى معرفة أثـر تطبيق مبادئ تحليل الائتمان في الحد من المخاطرات الائتمانية في المصارف التجارية العاملة في أراضي السلطة الوطنية الفلسطينية، اخذيـن بعيـن الاعتبار دور الرکائز الأساسية لتحليل الائتمان، وهي تحليل شخصية المقتـرض، والغرض من القرض، وقدرة ورغبة المقتـرض على الوفاء، وإجـراءات الحماية والتوقعات المستقبلية في الحد من المخاطرات الائتمانية في المصارف التجارية العاملة في فلسطيـن بشکل عام وبنک فلسطيـن التجاري بشکل خاص. ولتحقيق ذلک طور الباحثان أداة لجمع البيانات اللازمة (استبانة)، وتم التحقق من صدقها وثباتها، ووزعت بعد ذلک على عينة بلغ حجمها (35) موظفا من العامليـن إدارة الائتمان في بنک فلسطيـن بـرام الله، أي ما نسبته (86%) من مجتمع الدراسة. بعد عملية جمع البيانات، وتـرميـز الاستبيانات وإدخالها إلى الحاسوب، باستخدام بـرنامج الرزمة الإحصائية للعلوم الاجتماعية (SPSS) لمعالجة البيانات، وتم استخدام اختبار الانحدار الخطي البسيط لقياس أثـر المتغيـرات المستقلة، وهي شخصية المقتـرض، والغرض من القرض، وقدرة ورغبة المقتـرض على الوفاء، وإجـراءات الحماية، والتوقعات المستقبلية على المتغيـر التابع الرئيس للدراسة وهو الحد من مخاطر الائتمان. حيث تبيـن وجود أثـر لأبعاد مجال تحليل مخاطر الائتمان الخمسة على الحد من المخاطرات الائتمانية، حيث بلغت قيمة معامل التحديد (R2) 0.60.واحتل بعد قدرة طالب الائتمان على الوفاء بالتـزاماته المرتبة الأولى في أهمية إدارة تحليل الائتمان، تبعه على التوالي أبعاد کل من الضمانات المقدمة، ثم إجـراءات الحماية، يليه في المرتبة الرابعة شخصية طالب الائتمان. کذلک، بيـن التحليل الإحصائي عدم وجود فروق ذات دلالة إحصائية بيـن متوسطات استجابة أفراد عينة الدراسة تعزى لمتغيـرات: نوع الائتمان، سنوات الخبـرة، المؤهل العلمي. بينما أظهرت النتائج وجود فروق ذات دلالة إحصائية بيـن متوسطات استجابة مدراء الفروع وموظفي التسهيلات حول دور الرکائز الأساسية لتحليل الائتمان في الحد من المخاطرات الائتمانية في بنک فلسطيـن التجاري. The purpose of this study is to investigates the effectiveness of bank credit management, and the impact of credit analysis on credit risks reduction in commercial banks operating in the Palestinian territories, taking into account the role of the main factors of credit risk analysis, namely the borrower’s personality, purpose of the loan, borrower’s intentions (ability and willingness), required collateral and prospects. The study ultimate goal is to reduce the credit risk in commercial banks operating in Palestine in general and the Bank of Palestine in particular. The researchers developed a tool to collect the required data (questionnaire), which was verified and validated. The questionnaire was then distributed to a sample of 35 employees of the Bank of Palestine in Ramallah, representing 86% of the study population. After data collection, coding and entering the collected data into the computer, using the SPSS statistical package, a simple linear regression test was used to measure the impact of independent variables; the borrower’s personality, purpose of the loan, borrower’s intentions, required collateral and prospects on credit risk reduction. The results indicated that there was a significant impact of the five dimensions of the credit management on the reduction of credit risk, with the value of the coefficient of determination (R2) 0.60. Analysis of borrower’s intentions (ability and willingness) to has been ranked first in terms of importance in reducing credit risk. The results also found NO significant differences among the study sample due to (type of credit, years of experience and qualification). Meanwhile differences were found in the variables of branch managers and the employees of credit department.

Competition and Profitability: Impacts on Stability in Chinese Banking

This study contributes to the banking literature by testing the joint impacts of profitability and industry environment on several types of risk (credit risk, liquidity risk, capital risk, and insolvency risk) in a sample of Chinese commercial banks over the period 2003–2015. The results show that a more highly developed banking sector increases the liquidity risk and credit risk of Chinese commercial banks but decreases their capital risk. It is further suggested that profitability may lead to a reduction in credit risk and insolvency risk. The findings from the current study thus have important policy implications in terms of improving stability in the Chinese banking industry.

Quantitative easing in the Euro Area – An event study approach

We examine the effects of the Asset Purchase Programme (APP) gradually introduced by the European Central Bank from September 2014 onwards. Studying the short-term reaction of financial markets after APP press releases, we analyse the development of bond yields and spreads around these releases. More precisely, we try to estimate different asset price channels by quantifying the cumulative decrease of spreads and by running event regressions for several Euro Area countries. Focusing on the signalling channel, measured by the OIS rate, and the portfolio rebalancing channel, proxied by the conditional bond-OIS spread, we find that the effects in yield and spread reduction were most pronounced for the initial announcement on the Public Sector Purchase Programme (PSPP) but declined afterwards for additional announcements. Possible explanations for this are the declining degree to which the ECB surprised markets and the increasingly burdensome institutional set-up of the APP. While yield reductions were larger for periphery countries’ than for core countries’ bonds, our evidence suggests that this stronger reduction is mostly due to a decreasing risk component of southern bonds. In fact, once controlling for this implicit credit risk reduction we find rather mild effects from portfolio rebalancing for all countries.

Rural-Urban Floating Borrowers’ Credit Risks and the Determining Mechanism from Spatial Income Differences

Using the lending data from the end of 2015 to the beginning of 2018 on a network loan platform, this paper for the first time studies rural-urban floating borrowers’ credit risks and the determining mechanism from spatial income differences between the outflow and inflow places. By analyzing the data, we find that online borrowers have distinct demographic characteristics, and borrowers from rural to urban areas account for 42% of the total borrowers. Therefore, this paper attempts to answer the following two questions: First, what are the differences between the credit risks of rural-urban floating borrowers, urban borrowers and rural borrowers, and what are the reasons behind the differences? Second, for rural-urban floating borrowers, whether the income differences between the inflow and outflow areas affect their credit risks, and what is the role of the income from the outflow and inflow areas? The study finds that: the overdue probability of rural-urban floating borrowers is about 3% higher than that of urban borrowers, but 1% or so lower than rural borrowers; the relationship between the inflow-outflow income differences and the overdue probability of rural-urban floating borrowers is a U” shape; with the increase in the income differences between the inflow and outflow areas, the overdue probability of rural-urban floating borrowers decreases and then increases, and reaches the lowest level at about 30 000 Yuan; these effects mainly come from the income level of inflow places. This paper fills the research gap on the default behavior of floating borrowers in the literature, enriches the research on borrowers’ credit risks. In the current process of promoting urbanization, the credit risks of people moving from rural to urban areas is lower than that of people remaining in rural areas. In terms of the current average regional income, the differences between the inflow and the outflow are in the U” -type credit risk reduction area. Therefore, encouraging the flow of townships, reducing and ultimately eliminating the discrimination in employment, education, household registration can help to reduce the probability of default among those who have borrowing demand in the rural-urban migrants, which may help to improve the social integrity environment.

The conflict of interests of economic entities and to minimize its consequences by reducing the risks of corporate lending

This article is devoted to the construction of a risk-oriented model of credit risk reduction in the course of the life cycle of the loan in the provision of a commercial Bank loan to a corporate client. The work demonstrates, firstly, the need to introduce innovative solutions that reduce the risk of non-repayment of the loan by the borrower, and secondly — the mechanism of using such elements of the model as a new system of limits and risk profiles, the Institute of underwriting, IRB-approach to determine the risk category of the application and the body authorized to make.