Impact of IAS 39 reclassification on income smoothing by European banks

Abstract

Purpose

The purpose of this study is to examine the impact of the reclassification of International accounting standard (IAS) 39 on income smoothing using loan loss provisions among European banks.

Design/methodology/approach

Regression methodology is used to determine the extent of income smoothing using loan loss provisions before and after IAS 39 reclassification. The authors predict that the strict recognition and re-classification requirements of IAS 139 reduced banks’ ability to smooth income using bank securities and derivatives, motivating them to rely more on loan loss provisions to smooth income. The authors test this hypothesis over a sample of 114 European banking institutions over the period 2005 to 2013.

Findings

The findings do not support the prediction for income smoothing through loan loss provisions. Also, there is no evidence for income smoothing in the pre- and post-IAS 39 reclassification period.

Research limitations/implications

The implication of the findings is that the European banks did not use loan loss provisions to smooth income during the period examined, and rather rely on other accounting numbers to smooth income. This implies that the International Accounting Standards Board’s strict disclosure regulation improved the reliability and informativeness of loan loss provision estimates among European banks during the period of analysis.

Originality/value

This study is the first attempt to analyze the effect of IAS 39 re-classification on bank’s ability to smooth income in Europe.

Citation

Ozili, P.K. (2019), "Impact of IAS 39 reclassification on income smoothing by European banks", Journal of Financial Reporting and Accounting, Vol. 17 No. 3, pp. 537-553. https://doi.org/10.1108/JFRA-08-2018-0068