The Interaction between Non-Performing Loans and Macroeconomic Conditions:A Panel Vector Autoregressive Approach

Abstract

In this paper we assess the interaction between different macroeconomic variables and the quality of loan portfolio of banks in Iran by using a panel vector autoregressive (PVAR) method that controls for bank-level characteristics. For this purpose, we use a quarterly panel data of banks and some of the most important macroeconomic variables over the period 2002-2013. Variables of this research are the ratio of non-performing loans (NPLs) to total loans as the index for quality of loan portfolio of banks, GDP growth, real lending interest rate, monetary base and growth rate of banks’ loan. We find that a positive shock to real lending interest rate and loan growth rate improve the quality of loan portfolio of banks. However, printing more money by central bank (a positive shock to monetary base) leads to a drop in portfolio quality, while a positive shock to GDP growth rate doesn’t have a significant effect on NPLs. On the other hand, the feedback effect from NPLs on macroeconomic variables is verified, as a positive shock to NPLs (worsening the quality of loan portfolio) causes to exacerbate economic recession, to increase monetary base, and to decrease loan growth rate significantly, but it doesn’t have any significant effect on real lending interest rate .

Keywords

• loan quality
• banking system
• macroeconomic shocks
• panel vector autoregressive
• non-performing loans
• iran