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September 25, 2017

The PRA published a letter on transitional arrangements for capital impact of the International Financial Reporting Standards (IFRS) 9 expected credit loss (ECL) accounting. Sam Woods, the Deputy Governor of Prudential Regulation, wrote this letter to CEOs; in the letter, he summarized the rationale for transitional arrangements, outlined the key features of the transitional arrangements that have been considered in Europe thus far, set out views of the PRA on UK firms using the arrangements, noted the tight timeframes within which UK firms will likely need to make a final decision, and requested a response on whether a firm intends to use the transitional arrangements.

The letter identifies the need for transitional arrangements, as ECL provisioning will be sensitive to expectations of the future economic conditions. If, following transition to IFRS 9, firms give significant weight to adverse economic scenarios, there could be unanticipated large increases in provisions. Further, ECL provisioning is a completely new concept and the way it works in practice—including its volatility, pro-cyclicality, and effect on banks’ behaviorscan be gauged only in the light of experience. The letter further highlighted the EC proposal to amend the Capital Requirements Regulation (CRR), to establish IFRS 9-related transitional arrangements in November 2016 and that the European Council and European Parliament adopted the draft legislative texts around mid-2017.

 

The PRA encourages UK firms to use them from the first day of IFRS 9 application, provided that the final CRR amendment establishes transitional arrangements broadly similar to those being considered. Subject to the need for sufficient resilience at the end of the transitional period, the PRA intends that all aspects of supervision of a firm using the transitional arrangements would be performed using transitional data on capital resources and not fully loaded figures. Since stress tests should reflect how stress would be experienced in reality, such tests will fully take account of transitional arrangements. The final amendment to the CRR may not become available until the end of 2017. The PRA advises firms to arrange for their boards to be in a position, if necessary, to make a final decision on the use of transitional arrangements in a compressed timescale across the year-end.

 

Related Link: PRA Letter (PDF)

Keywords: Europe, UK, Banking, Accounting, IFRS 9, Transitional Arrangements, ECL, CRR, PRA

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