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Bank Earnings Smoothing, Audit Quality and Procyclicality in Africa. The Case of Loan Loss Provisions

Ozili, Peterson (2017) 'Bank Earnings Smoothing, Audit Quality and Procyclicality in Africa. The Case of Loan Loss Provisions.' Review of Accounting and Finance, 16 (2). ISSN 1475-7702

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Abstract

This paper empirically examine whether the way African banks use loan loss provisions to smooth earnings is influenced by capital market motivations and the type of auditor, after controlling for non-discretionary determinants of provisions and fluctuations in the business cycle. To test the income smoothing hypothesis, the model is estimated using panel least square with White’s robust standard error correction, as well as, with and without period fixed effect.The findings support the income smoothing hypothesis and indicate that (i) African banks use loan loss provisions to smooth earnings; (ii) listed African banks use loan loss provisions to smooth earnings to a greater extent compared to non-listed African banks, possibly, for capital market reasons; (iii) income smoothing via loan loss provisions is not reduced among African banks with Big 4 auditor; and (iv) after controlling for macroeconomic fluctuation, there is evidence that bank provisioning is procyclical with fluctuations in the business cycle. The findings have three implications. One, listed African banks smooth income because they are more visible to investors and investors does not view stock price fluctuations as a good signal. Securities market regulators in African countries should enforce strict disclosure rules that reduce earnings smoothing practices in order to improve the transparency of bank earnings in the region. Two, the presence of Big 4 auditor did not improve the informativeness of loan loss provisions estimates among African banks. Three, the evidence for procyclical provisioning suggest the need for dynamic loan loss provisioning system in Africa.

Item Type: Article
Uncontrolled Keywords: Loan Loss Provisions; Earnings Management; Dynamic Provisioning; Income Smoothing; Audit Quality; Procyclicality; Africa
Subjects: H Social Sciences > HG Finance
Divisions: Faculty of Social Sciences > Essex Business School
Faculty of Social Sciences > Essex Business School > Essex Finance Centre
Depositing User: Kitakogelu Ozili
Date Deposited: 06 Sep 2016 10:54
Last Modified: 01 Apr 2019 01:00
URI: http://repository.essex.ac.uk/id/eprint/17466

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