Determinants of Nonperforming Loans in Central, Eastern and Southeastern Europe

Credit risk assessment and, in particular, nonperforming loan (NPL) projection are a crucial part of macro-stress tests. These tests are based on macroeconomic assumptions in order to provide common scenarios for all financial institutions participating in such an exercise. However, due to limited data availability, short time series and structural breaks, especially in emerging markets, it is challenging to estimate a robust model for any single country. It is therefore useful to provide an estimate based on panel data from emerging Europe to be used as a benchmark for countries in this region.1 Credit risk is one key risk for financial stability in Central, Eastern and Southeastern Europe (CESEE), where banks apply the traditional business model based on accepting deposits and granting loans. Although the recent financial crisis had its origin in advanced economies, average bank asset quality in CESEE deteriorated sharply when the subsequent economic crisis hit the global economy. Many research studies empirically confirm that credit quality is tightly linked to the economic cycle. However, there is some disagreement as to the importance of other factors driving credit quality. In this study, we focus on some specifics of the CESEE region that could determine the key drivers of NPL development. This study follows research conducted by Beck, Jakubík and Piloiu (2013), who empirically investigated the key drivers of NPL development for a global panel covering 75 countries by using annual NPL data. Unlike the above study, we employ quarterly data and a more detailed dataset covering some aspects that were not available to Beck et al. (2013).