FED published a working paper that examines the accounting and economic impact of the Current Expected Credit Loss (CECL) standard. The paper presents a framework that captures a simple and relatively direct impact of CECL on credit availability. The CECL standard will soon replace the incurred loss method (ILM) for the recognition of credit losses in financial accounts. The resulting changes to the timing and magnitude of loss allowances will affect the regulatory capital of banks. As the date of implementation approaches, several commentators have raised concerns that the standard will have a “procyclical” impact, reducing lending in downturns. In contrast, the findings in this study suggest that CECL will modestly affect bank lending in a way that dampens fluctuations.
The paper highlights that CECL results in earlier accumulation of allowances prior to recessions than the ILM. This feature of the standard encourages banks to deleverage and raise capital before credit conditions are at their tightest. However, CECL may also result in a larger accumulation of allowances around recessions, potentially encouraging banks to deleverage more. Accounting for both of these effects, CECL would have reduced lending in the lead up to the financial crisis and increased it during the recovery, modestly decreasing the volatility of lending growth. These conclusions are robust to a range of assumptions about banks’ foresight of losses and management of capital ratios. The framework presented in this paper does not incorporate potential effects of CECL on the composition of bank lending and loan pricing., which could further reduce cyclicality. The analysis may overstate the magnitude of the impact of CECL to the extent that
- Banks have significant discretion when modeling CECL allowance for credit losses
- Banks are indifferent to the shorter-term shifts between allowances
- Capital implied by CECL or the capital impact at banks subject to comprehensive capital analysis and review (CCAR) is roughly offset by reductions in the modeled stress losses
Keywords: Americas, US, Banking, Accounting, CECL, Regulatory Capital, Incurred Loss Method, CCAR, Research, IFRS 9, FED
Previous ArticleIASB Issues Updates of Meetings for April 2019
HKMA has published a circular that sets out the regulatory and reporting treatment for loans that participating authorized institutions may grant to eligible borrowers under the 100% Personal Loan Guarantee Scheme.
ECB published the results of the assessment of internal models that banks use to calculate risk-weighted assets for credit, market, and counterparty credit risks.
PRA published a statement on the regulatory treatment of retail residential mortgage loans under the Mortgage Guarantee Scheme, or MGS.
FCA is consulting, via CP21/7, on the second phase of proposed rules to introduce the UK Investment Firm Prudential Regime (IFPR).
HM Treasury and BoE announced the joint creation of a Central Bank Digital Currency (CBDC) Taskforce to coordinate the exploration of a potential central bank digital currency in UK.
EIOPA published an opinion to set out its expectations on the supervision of the integration of climate change risk scenarios by insurers in their Own Risk and Solvency Assessment (ORSA).
EC published the Implementing Regulation 2021/622 that lays down implementing technical standards for reporting of the minimum requirement for own funds and eligible liabilities (MREL).
BCBS has set out the strategic work priorities, as part of its the work program for 2021-22.
Bundesbank published two circulars on AnaCredit reporting requirements. Circular 27/2021 covers changes to the reporting of branches, additional attributes to be reported for investment funds from August 01, 2021, and updates to the list of international organizations.
PRA published the policy statement PS8/21, which contains the final supervisory statement SS3/21 on the PRA approach to supervision of the new and growing non-systemic banks in UK.