FSC published a set of temporary measures on the capital adequacy, liquidity, and asset quality requirements of financial institutions, in an effort to ease impact of the COVID-19 crisis. The key measures include early adoption of Basel III credit risk framework, postponement of large exposures framework until after 2021, and no penalties or administrative sanctions for failing to meet the disclosure or business report deadlines. FSC and FSS issued guidance warning companies and auditors against a mechanical application of IFRS 9 standards for determining their expected credit losses (ECLs) during the COVID-19 crisis. Additionally, The Korean government has issued financial support measures aimed at helping the small and medium size enterprises (SMEs) and small merchants to better cope with the burden of economic slowdown amid the COVID-19 outbreak.
Regulations on Capital Adequacy
- Early Adoption of Basel III credit risk framework for banks—Basel III contains measures to lower credit risk weights for SME loans loans and loss given default (LGD) rates for business loans. The early adoption of the Basel III credit risk framework in late June this year, more than one year and a half before the Basel Committee recommendation will increase domestic banks’ average BIS ratio by 0.8 percentage point.
- Designation of Domestic Systemically Important Banks (D-SIBs)—Basel III requires D-SIBs and their subsidiaries to maintain higher capital buffers of an additional 1 percentage point. FSC noted that, through revisions of rules and regulations in June, small regional banks will be excluded from the list of D-SIBs and exempt from the 1 percentage point additional capital buffer rule.
- Net Capital Ratio for Securities Firms—The standards for calculating firms’ net capital ratio will be temporarily eased for newly issued business loans until the end of September, including extensions of existing loans. For loans to SMEs and startups of up to a certain amount, the lowering of risk-weights will be applied permanently.
- Contribution to Stock Market Stabilization Fund—Under the current regulations , banks investment in funds that have listed stocks as underlying assets should be assigned a 300% risk-weight in principle. However, banks will be allowed to assign a 100% risk-weight for the amount of contributions they make to the stock market stabilization fund.
Regulations on Liquidity
- Liquidity Coverage Ratio (LCR) for Banks—FSC will work to lower the foreign currency LCR from 80% to 70% by the end of September. Similarly, FSC will work to bring down the total LCR from 100% to 85% by the end of September to encourage banks to make use of high liquidity assets amid the COVID-19 crisis.
- Loan-to-Deposit Ratio—Banks will be exempt from sanctions for violating the loan-to-deposit ratio requirement within a 5 percentage point range until the end of June 2021. Also, the risk-weight of commercial loans issued to self-employed small merchants in this year will be lowered from 100% to 85%.
- Net Stable Funding Ratio—Korea Development Bank issues industrial finance bonds to raise funds for the COVID-19 emergency support package of government. Due to the relatively low risk-weight assigned to these bonds, net stable funding ratio of Korea Development Bank is expected to drop after the bond issuance. As such, there will be no penalties imposed on Korea Development Bank for violating the net stable funding ratio rule within a 10 percentage point range until the end of June 2021.
- Liquidity Ratio Requirements for Credit Finance Companies and Savings Banks—Specialized credit finance companies and savings banks will not be sanctioned for violating the liquidity ratio rules within a 10 percentage point range until the end of June 2021.
Guidance on Application of IFRS 9
Both companies and auditors are highly advised to consider the unprecedented financial and economic relief measures taken by the government in a comprehensive way when determining ECLs. Ordinarily, the government’s market support measures are expected to lower the risk of a default on a financial instrument. With regard to the impairment of financial instruments, IFRS 9 “requires that lifetime ECLs be recognized when there is a significant increase in credit risk on a financial instrument.” IASB has issued a statement in this regard on March 27, recommending entities to adopt a more flexible approach when recognizing the impairment of financial instruments due to high levels of uncertainty amid the COVID-19 crisis.
Asset Quality Standards
Across all financial sectors, concerns have been raised over degradation of asset quality and accounting of accrued interest due to heavy volumes of loan extensions and deferment of payment extended to commercial entities. In this regard, all financial institutions can apply the existing asset quality standards without the need to raise additional capital reserves and consider accrued interest as interest revenue for accounting purposes.
- Incentives for State-Backed Financial Institutions—State-backed financial institutions have expanded the availability of funding to help businesses and individuals and to stabilize markets. By doing so, policy banks have risked unfavorable assessment results for their annual performance reviews, especially in terms of budget implementation and revenue management. In this regard, the financial authorities will take into account the special circumstances surrounding business operations amid the COVID-19 crisis and prioritize the performance of providing the COVID-19 emergency support package when carrying out performance reviews on policy banks this year.
- Financial Support—The financial support programs targeted at the SMEs and small merchants include extensions on the existing loans and guarantees; new loans and special credit guarantees; and discounts on interest rates and fees, deferment of payments, and export-import financing. FSC and FSS, along with the Korea Federation of Banks and its member institutions, held a meeting on March 23, during which a memorandum of agreement was signed for close cooperation in the provision of the COVID-19 financial support programs. The key point of the agreement is that banks will work to ensure that the loan and guarantee extensions, along with the deferment of interest payments, are seamlessly implemented beginning on April 01.
- Press Release on Temporary Relief Measures (PDF)
- Press Release on Guidance on Application of IFRS 9 (PDF)
- Press Release on Financial Support Package (PDF)
- Press Release on Memorandum of Agreement (PDF)
- Press Release on Additional Financial Support for SMEs (PDF)
Keywords: Asia Pacific, Korea, Banking, COVID-19, LCR, NSFR, Basel III, Large Exposures, Credit Risk, Disclosure, IFRS 9, ECL, SME, Regulatory Capital, Liquidity Risk, FSS, FSC
Scott is a Director in the Regulatory and Accounting Solutions team responsible for providing accounting expertise across solutions, products, and services offered by Moody’s Analytics in the US. He has over 15 years of experience leading auditing, consulting and accounting policy initiatives for financial institutions.
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