Bank Executive Overconfidence and Delayed Expected Loss Recognition

Abstract

While prior work shows that delayed expected loan loss recognition is related to lending propensity (Beatty and Liao, 2011), bank risk (Bushman and Williams, 2011), and bank risk taking (Bushman and Williams, 2012), we provide evidence that executive overconfidence is a potential driver of delayed expected loan loss recognition. We find that overconfident bank CEOs and CFOs recognize lower loan loss provisions and incorporate current and future deterioration in nonperforming loans in their loan loss provisions less than other bank CEOs and CFOs. Our evidence of delayed expected loss recognition is driven primarily by CFOs, consistent with CFOs being closer to the financial reporting function than CEOs. The study is important because it demonstrates that manager characteristics can have meaningful economic consequences for financial institutions through the reporting of asset risk.

Keywords: Bank executives, overconfidence, loan loss provision, delayed expected loss recognition

JEL Classification: E58, G21, G32, G34, M14, M41