HUNG, MINGYI, Ru, Yi, She, Guoman and Wang, Lynn. "Horizon Problems in the Implementation of Bank Reporting Regulation: Evidence from China." Review of Accounting Studies, Forthcoming.

Abstract

We investigate the role of politicians’ horizon incentives in banks’ response to the adoption of a forward-looking provisioning model. We argue that horizon incentives, defined as the tendency of politicians to focus on short-term performance in the late stage of an official term, motivate banks to use the discretion of provisioning to obfuscate the reporting system. Using the mandatory shift to the expected credit loss model in China, we find that the increases in the magnitudes and timeliness of loan loss provisions following the mandatory shift are smaller for state-owned banks with late-term local governors than other state-owned banks. Further, while the mandatory shift reduces the pro-cyclicality of lending during the COVID-19 recession for state-owned banks without late-term governors prior to the recession, it has little impact on state-owned banks with late-term governors prior to the recession. Overall, our findings suggest that politicians’ horizon incentives lead to opportunistic underreporting of provisions and dampen the effectiveness of financial reporting regulation in reducing lending pro-cyclicality.