Claudio Borio of BIS Examines Effects of IFRS 9 on Financial Stability

Mr. Borio highlighted that, although "the new standard is likely to mitigate the procyclicality of the financial system to some extent relative to the previous, incurred loss model, it falls short by a significant margin of what one would like from a financial stability perspective." This points to broader inevitable tensions between accounting and prudential regulation and calls for the active use of backstops (or so-called prudential filters) to preserve stability. Experience with the operation of the alternative dynamic (countercyclical) credit loss provisioning scheme adopted by the Bank of Spain points to some strengths and weaknesses in the broader macro-prudential frameworks in which such arrangements are embedded. He believes that that macro-prudential frameworks are part of the solution, but not the whole solution to procyclicality.

In particular, the active deployment of macro-prudential tools in some countries, mainly emerging market economies, has not prevented the emergence of the familiar signs of the build-up of dangerous financial imbalances in the form of cumulative credit growth and asset price increases, notably property prices, in excess of historical benchmarks. These elements are the basis of the early warning indicators that worked well in the pre-global-financial-crisis period. The Spanish experience with dynamic provisions confirms this assessment. According to the analysis of the Bank of Spain, dynamic provisions have not succeeded in restraining credit growth significantly. Other measures, such as maximum loan-to-value ratios and debt service-to-income ratios, have a larger impact. However, he believes that tackling the financial cycle requires a more holistic policy framework, which in addition to sound prudential standards also involves monetary and fiscal policy, and even structural policies. This is what is called a "macro-financial stability framework" at BIS. He concludes that there is a material risk that unrealistic expectations about what macro-prudential frameworks can deliver stand in the way of desirable adjustments in monetary and fiscal policies. 

Related Link: Speech

Keywords: International, Banking, IFRS 9, Financial Stability, ECL, Procyclicality, Macro-prudential Framework, BIS