Featured Product

    ESRB Report Examines Cyclical Behavior of ECL Model in IFRS 9

    March 18, 2019

    ESRB published a report that examines the concerns about procyclicality from the expected credit loss (ECL) model in IFRS 9, including the possible sources of procyclicality and its relevance from a financial stability perspective. The report also incorporates the recent information on the implementation of IFRS 9 by EU banks.

    Given the limited experience with IFRS 9 to date, this report focuses on describing the aspects of the ECL model under IFRS 9 that could potentially contribute to procyclical bank behavior, along with the conditions under which such behavior would be more likely to arise. The report is focused on the impact at the onset of a downturn because it is a crucial time for the exacerbation of the depth and duration of a financial crisis. The report concludes that a substantial degree of uncertainty exists about the cyclical behavior of the ECL model in IFRS 9 and its impact on bank behavior. Stress tests and targeted and harmonized disclosures are effective tools to improve the understanding of this cyclical behavior. So far, experience of IFRS 9 is limited but points to the following three factors that are important in shaping the cyclical behavior of ECL approach in IFRS 9 and, therefore, may warrant closer monitoring and review going forward:

    • The principles-based nature of IFRS 9, with particular reference to the conditions and criteria that trigger the transfer of exposures from stage 1 (12 month expectation) to stage 2 (lifetime expectation) and further into stage 3, which, in turn, could facilitate a delay in loss recognition.
    • The ability of, and incentives for, banks to promptly incorporate into their ECL models all new information available on the expected trend of the economic cycle and to recognize losses in a timely manner under IFRS 9 (if recognition of credit losses is delayed because of inadequate modeling or improper incentives).
    • The use of point-in-time (PIT) estimates for expected credit losses should generate more volatile outcomes than through-the-cycle estimates, although that volatility should not be judged as negative per se and becomes less relevant if a bank has anticipated the downturn.

    The report also concludes that the policy analysis should focus on how the requirements of IFRS 9 are being applied and whether banks have appropriate incentives to recognize credit losses in a timely manner. As IFRS 9 has only been applied since January 01 2018 and in a period of benign macroeconomic conditions, it is still too early to say whether IFRS 9 poses a real risk to financial stability and, therefore, requires prompt regulatory intervention. However, early evidence points to issues that regulators and supervisors may want to monitor closely going forward. These issues, which relate to the quality of foresight in banks’ ECL models, concern lack of information (for example, due to insufficient data or inherent behavioral biases to overweight more recent conditions or not consider tail events) and perverse incentives (that is, management incentives to avoid excessive volatility or adverse market perceptions rather than to build sufficient foresight into ECL estimates). The development of best practices or enhanced guidelines could make a positive contribution to ensuring that the financial stability benefits of IFRS 9 are reaped.

     

    Related Link: Report (PDF)

     

    Keywords: Europe, EU, Accounting, Banking, Procyclicality, ECL, IFRS 9, Credit Risk, Financial Stability, ESRB

    Featured Experts
    Related Articles
    News

    EC Rule on Contractual Recognition of Write Down and Conversion Powers

    The European Commission (EC) published the Delegated Regulation 2021/1527 with regard to the regulatory technical standards for the contractual recognition of write down and conversion powers.

    September 17, 2021 WebPage Regulatory News
    News

    APRA Issues Further Guidance on Application of Securitization Standard

    The Australian Prudential Regulation Authority (APRA) published a new set of frequently asked questions (FAQs) to provide guidance to authorized deposit-taking institutions on the interpretation of APS 120, the prudential standard on securitization.

    September 16, 2021 WebPage Regulatory News
    News

    SRB Provides Update on Approach to Prior Permissions Regime

    The Single Resolution Board (SRB) published a Communication on the application of regulatory technical standard provisions on prior permission for reducing eligible liabilities instruments as of January 01, 2022.

    September 16, 2021 WebPage Regulatory News
    News

    APRA Publishes FAQs on Capital Treatment of Overseas Subsidiaries

    The Australian Prudential Regulation Authority (APRA) published a new set of frequently asked questions (FAQs) to clarify the regulatory capital treatment of investments in the overseas deposit-taking and insurance subsidiaries.

    September 15, 2021 WebPage Regulatory News
    News

    EBA Finalizes Guidance to Assess Breaches of Large Exposure Limits

    The European Banking Authority (EBA) published the final report on the guidelines specifying the criteria to assess the exceptional cases when institutions exceed the large exposure limits and the time and measures needed for institutions to return to compliance.

    September 15, 2021 WebPage Regulatory News
    News

    PRA Finalizes Changes to Consolidated Prudential Rules Under CRD5/CRR2

    The Prudential Regulation Authority (PRA) issued the policy statement PS20/21, which contains final rules for the application of existing consolidated prudential requirements to financial holding companies and mixed financial holding companies.

    September 15, 2021 WebPage Regulatory News
    News

    EBA Revises Guidelines on Stress Tests of Deposit Guarantee Schemes

    The European Banking Authority (EBA) revised the guidelines on stress tests to be conducted by the national deposit guarantee schemes under the Deposit Guarantee Schemes Directive (DGSD).

    September 15, 2021 WebPage Regulatory News
    News

    Nordea Bank and EIB Sign Agreement to Fund Green Projects in Nordics

    The European Commission (EC) announced that Nordea Bank has signed a guarantee agreement with the European Investment Bank (EIB) Group to support the sustainable transformation of businesses in the Nordics.

    September 15, 2021 WebPage Regulatory News
    News

    HKMA Endorses Industry Guidance to Support LIBOR Transition

    The Hong Kong Monetary Authority (HKMA) issued a circular, for all authorized institutions, to confirm its support of an information note that sets out various options available in the loan market for replacing USD LIBOR with the Secured Overnight Financing Rate (SOFR).

    September 14, 2021 WebPage Regulatory News
    News

    OCC Issues Booklet on Supervision of Problem Banks

    The Office of the Comptroller of the Currency (OCC) issued a new "Problem Bank Supervision" booklet of the Comptroller's Handbook. The booklet covers information on timely identification and rehabilitation of problem banks and their advanced supervision, enforcement, and resolution when conditions warrant.

    September 13, 2021 WebPage Regulatory News
    RESULTS 1 - 10 OF 7481