Loan Loss Provision and Risk-Taking Behavior of Commercial Banks in Pakistan: A Dynamic GMM Approach
Round 1
Reviewer 1 Report
It would be appropriate to include the basic characteristics of the banking market in Pakistan; what share of the market are analysed banks and whether the analysed banks are representative for this analysis.
I would also recommend explaining why government bonds improve bank profits; how government bond yields evolved. It is possible that the relationship between revenue and risk is also relevant for government bonds. I recommend more linking research with the situation in the banking sector of Pakistan.
1. The paper is divided on the sections oriented on a literature review, on the statistical tools and model specification, then on results and on the conclusions of the study.
2. I cannot quite agree with the statement that: „The provision variable studied by [18] on different countries found that the credit loss provision is categorized as Tier 2 capital under Basel Accord are listed as capital on certain limits, whereas as some country does not include provision as a credit.“
This is mainly because in Tier 2 capital is also subordinated debt, de facto foreign source; the current regulation of the banks needs to cover the losses of banks from their own resources.
3. It is appropriate to determine hypotheses by setting research questions that should be justified on the basis of previously conducted research. For example, by the hypothesis 5 it completely absents.
4. I recommend mentioning the benefits of using a GMM estimator in the analysis of loan loss provisions in comparison with other used methods.
5. I would recommend to indicate in which units they are listed in the „Figure 1. Sample distribution of loan loss provision of all commercial banks of Pakistan“.
6. I recommend listing the publications in alphabetical order in accordance with the requirements of IJFS.
7. I recommend carrying out a deeper analysis of the used literature, its relevance to the analysed issue. I would also like to compare the results of my own research with those of the authors.
8. The authors did not refer to all literature sources listed in the bibliography; that I see as problematic.
Results may suggest the recommendation for the policy makers and for bank management in the Pakistan.
Author Response
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Author Response File: 
Author Response.pdf
Reviewer 2 Report
The paper seeks to identify the macroeconomic and firm-specific factors influencing the risk-taking behavior of commercial banks in Pakistan. However, as it stands, the paper needs thorough and substantial revisions, in terms of both form and content.
The abstract does not explicitly state what the authors are trying to investigate in their paper. There are some clues in this respect when the authors present their main findings, yet the aim of the paper should be more clearly stated.
The literature review fails to point out what are the recent trends in studying the risk-taking behavior of commercial banks. What are the main findings of previous studies and in what way would this paper contribute to the advances of knowledge in the field? To our knowledge, there is a huge amount of literature in this area, so the authors must clearly emphasize what their original contribution consists of.
In addition, the literature points out to many potential determinants of the risk-taking behavior of banks. Why did the authors choose just the 2 macroeconomic and 3 firm-specific determinants?
From a methodological point of view, several clarifications are required. Have the authors tested for serial correlation, heterogeneity, and endogeneity? They talk about these but no clear results are stated, so the authors should present the results of the tests performed in an appendix and show how did they affect the choice of the appropriate estimation technique. Time dummies have been included, but have the authors tested the need for time-fixed effects? The coefficients of these variables are reported separately but it does not result from table 6 if they are statistically significant. Moreover, the dynamic GMM estimation technique requires a large N and small T, while N=22 could barely be classified as “large”. Overall, the number of observations is quite small (only 113 common observations, given the limited availability of data for the capital adequacy variable).
In the results section, when interpreting the outcomes of their estimations, the authors should mention in which way their results differ or are consistent with the findings of previous studies in the field. Moreover, what are the policy implications of the findings?
Last but not least, the language severely lacks clarity and coherence, and there are many typos and English grammar mistakes. Therefore, proofreading for style and English editing is highly recommended.
Author Response
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Author Response File: Author Response.pdf
Reviewer 3 Report
The purpose of this paper is to study the risk taking behavior regarding loan loss provision, on strongly balanced sample data of 22 commercial banking institutions of Pakistan, from 2010 to 2017, by using the methods of .Ordinary Least Square (OLS), Panel Ordinary Least Square (POLS), Panel Corrected Standard Error (PCSE) and General Method of Moments (GMM). This is my first review for this paper. I think authors have revised their paper following the other reviewers’ comments and suggestions. Some further revisions are suggested as follows:
Suggest adding the description of the relationship between this paper and sustainability since this journal is a “sustainability” journal. Suggest rewriting the “Abstract” to briefly describe the motives, purposes, research methods, important results, limitations and future research directions of this research. Suggest enhancing the description of the motive of this research and the reasons why the research issue explored in this paper is important in the field in “Introduction”. Suggest enhancing the descriptions of the reasons why chose 2010 to 2017 as the research time period. Suggest enhancing the description of the contribution of this paper in the field. Suggest citing the papers published in this journal “sustainability” (no one now) to show this paper fits the scope of this journal “sustainability”.Author Response
Dear Editor-In-Chief
We are very grateful to the reviewers and Editors for their appropriate and constructive suggestions and for their proposed corrections, all of which have enabled us to improve the paper. We have addressed all the issues raised and have modified the paper accordingly. Below, please find a summary of the changes we have made and our responses to the reviewers’ comments and recommendations.
Reviewer 3
Comments to the Authors: Suggest adding the description of the relationship between this paper and sustainability since this journal is a “sustainability” journal.
Authors’ Response: The content of the paper fits the scope of the journal as sustainability journal provides and encourages innovative opportunity to publish research papers for study related to social science with detailed information for the promotion of experimental estimations and analyze the impact of study for change and development of the sustainability in bank sector. And inclusion of government security variable in the paper makes it more significant as the bailout policy of government for a bank in the time of financial crises provide sustainability to the economy.
Comments to the Authors: Suggest rewriting the “Abstract” to briefly describe the motives, purposes, research methods, important results, limitations and future research directions of this research.
Authors’ Response: The basic motive of the research is that LLP is a measure of credit risk as a proxy for bank risk-taking behavior, profits and banks’ sustainability. Especially after the occurrence of global financial crisis. Research methods are in the form of quantitative data collection from Bureau Van Dijk’s BankFocus portal and from the World Bank’s World Development Indicators. The important results obtained by the use of inflation (INF) as an instrumental variable of LLP are highly dependable with a negative impact of loan loss provision. Lending interest rate (LIR) has a positive and significant relationship with LLP and contribute in the study of macroeconomic variables for bank risk-taking, excessive amount of interest rate is not beneficial for banks to earn profits especially during the economic crises. Return on average equity (ROAE) significantly moderates LLP with a negative interaction and help the bank to have profitable operations and save bank from solvency. Capital adequacy ratio (CAR) and government securities (GOV) are insignificant to LLP. The result is robust by measure of endogeneity, and highlights the important role of commercial banks sustainability to explain risk-taking behavior in Pakistan after the occurrence of financial crises. The study further contributes to future research on managerial policy and decision making. In summary the paper on loan loss provision has capacity to forecast commercial banks’ credit risk for risk-taking in an emerging country.
Comments to the Authors: Suggest enhancing the description of the motive of this research and the reasons why the research issue explored in this paper is important in the field in “Introduction”.
Authors’ Response: The motive of research as commercial banks in Pakistan had some limitations of risk control to provide credit in the market and led to financing crisis for the firms. Therefore, it was critical to establish loan loss provision model for the following reasons. First, credit risk allowed banks to empirically and broadly asses the risk of credit issue to firms; second banks were able to gather information that was helpful to make lending decisions and, third, to study the organizing of commercial banks’ credit, the most important challenge for banks’ manager, and was the vital work in credit loan decision making and guaranteed banks’ credibility and sustainability. Researchers used two-stage least square (2SLS) model, to forecast credit risk in commercial banks, the paper used general method of moments (GMM) two-step system for robustness check to measure the accuracy of the model.
Comments to the Authors: Suggest enhancing the descriptions of the reasons why chose 2010 to 2017 as the research time period.
Authors’ Response: the reason to choose 2010 to 2017 as the research time period was for covering the era after the global financial crisis defined by [45] from July 2007 to March 2009. The end year is 2017 as the latest year of data availability at Bureau Van Dijk’s BankFocus portal at the time of data collection. With reference number 66. Dungey, M., & Gajurel, D. Contagion and Banking Crisis–International Evidence for 2007–2009. J. Bank. Financ. 2015, 60, 271–283.
Comments to the Authors: Suggest enhancing the description of the contribution of this paper in the field.
Authors’ Response: The contribution of the paper was as follow: (1) the proposing of commercial banks’ credit risk model especially for Pakistan. (2) demonstration of credit risk performance prediction by pooled ordinary least squares (POLS), fixed effect (FE), panel corrected standard error (PCSE), and panel data estimation in the form of a general method of moments (GMM) two-step system to find the risk-taking behavior of banks in Pakistan.
Comments to the Authors: Suggest citing the papers published in this journal “sustainability” (no one now) to show this paper fits the scope of this journal “sustainability”.
Authors’ Response: The following references with respective number cited in the manuscript are published in sustainability journal to prove that manuscript sustainability-537264 fits the scope of sustainability journal:
Cui, Y.; Geobey, S.; Weber, O.; Lin, H. The Impact of Green Lending on Credit Risk in China. Sustain. 2018, 10 (6), 1–16. https://doi.org/10.3390/su10062008. Lee, M.; Hwang, I. T. The Effect of the Compensation System on Earnings Management and Sustainability: Evidence from Korea Banks. Sustain. 2019, 11 (11), 1–24. https://doi.org/10.3390/su11113165. Angori, G.; Aristei, D.; Gallo, M. Determinants of Banks ’ Net Interest Margin : Evidence from the Euro Area during the Crisis and Post-Crisis Period. 2019, 11(14), p.3785.
Dear Reviewer
Once again thank you so much for the valuable comments on our manuscript.
With sincere thanks
Authors
Author Response File: Author Response.pdf
