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    FSI Brief Analyzes Measures on Expected Loss Provisioning Amid COVID

    FSI published a brief report that takes stock of the measures introduced in several jurisdictions to influence the application of expected credit loss (ECL) methodologies amid the COVID-19 pandemic. Several prudential authorities, along with BCBS, have introduced a series of measures to clarify how banks should consider various public and private debt relief programs in their ECL estimates and in their calculation of regulatory capital. This report compares the key features of incurred and ECL methodologies and summarizes the actions taken in the United States and in select IFRS jurisdictions that have adopted ECL provisioning frameworks. The report also reviews the cumulative impact of these measures on the financial metrics of banks.

    Many authorities have taken various actions, aiming to mitigate the procyclical impact of the ECL accounting approaches. Those actions also affect the accounting treatment of the various debt relief measures that authorities have implemented to help affected borrowers and industries that are encountering short-term cash flow problems.

    • In IFRS-compliant jurisdictions, authorities have issued guidance to clarify how such measures should be considered in implementing ECL methodologies, emphasizing the flexibility allowed under IFRS 9. 
    • In the United States, authorities have taken various measures to encourage bank lending to consumers and businesses and to provide regulatory capital relief. These measures include providing an option to delay the adoption of current expected credit loss (CECL), mitigating the effects of ECL provisions in regulatory capital, and offering guidance on the treatment of payment holidays and restructured debt.

    At the international level, BCBS recently clarified that the regulatory treatment of different payment moratoria and government guarantees in the context of risk-based capital requirements. BCBS members also agreed on certain amendments to the existing transitional arrangements in regard to the recognition of ECL provisions in regulatory capital, to mitigate any potential cliff effects with the application of ECL frameworks in the current environment. These amendments allow jurisdictions the option to add back into the common equity tier 1 (CET 1) capital up to 100% of the provisions attributable to the application of ECL provisioning methodologies in 2020 and 2021. If this option is exercised by all BCBS members, it means that only accounting provisions related to incurred losses will be reflected in the calculation of CET 1 measures  of banks in 2020 and 2021.

    The cumulative impact of these extraordinary support measures on the provisions, earnings, and CET 1 capital of banks is likely to be significant. The report summarizes the impact of such COVID-19 support measures on provisions, earnings, and CET 1 by presenting two tables, one for IFRS jurisdictions and the other for the United States. The report highlights that regulatory measures should be accompanied by bank-led actions to preserve capital. These initiatives, which have already been taken by some banks in certain jurisdictions include severe constraints on stock buybacks and payments on dividends and bonuses, until the global economy regains its footing. These collective measures should help banks to expand their lending capacity while concurrently boosting their ability to absorb future loan losses. Prudential authorities face difficult trade-offs as they confront the most severe economic crisis in modern times. Encouraging the use of flexibility in applicable accounting standards, while preserving market trust and transparency in the reported financial statements of banks, will be key in fostering both economic and financial stability. 

     

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    Keywords: International, Americas, US, Banking, COVID-19, ECL, CECL, Expected Credit Loss, IFRS 9, Regulatory Capital, BCS, FSI

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