New accounting rules pose threat to banks amid coronavirus crisis
The COVID-19 pandemic has already had a significant impact on the global economy, and the banking sector is no exception. Now, new accounting rules are adding to the challenges faced by banks, making it even more difficult for them to navigate the crisis.
The new accounting rules in question are the International Financial Reporting Standard (IFRS) 9, which came into effect in 2018. IFRS 9 requires banks to recognize expected credit losses (ECLs) on their loan portfolios, rather than waiting for actual defaults to occur. This means that banks must estimate the likelihood of default and provision for those losses upfront.
While the intention behind IFRS 9 is to provide a more accurate reflection of a bank's financial health, the timing of its implementation has been criticized for exacerbating the current crisis. With the pandemic causing widespread economic disruption and uncertainty, banks are facing increased credit risk and uncertainty, making it even more challenging to estimate ECLs accurately.
The impact of IFRS 9 on banks is twofold:
- Increased provisioning: Banks are required to provision for expected credit losses, which can lead to a significant increase in provisioning costs. This can reduce banks' profitability and potentially even lead to capital adequacy issues.
- Reduced lending: The increased provisioning requirements can also lead to reduced lending, as banks may become more cautious about extending credit to customers. This can have a ripple effect on the economy, as reduced lending can exacerbate the economic downturn.
The European Banking Authority (EBA) has acknowledged the challenges posed by IFRS 9 and has called for a review of the standard to ensure it is not exacerbating the crisis. The EBA has also proposed a temporary relaxation of the provisioning requirements to help banks navigate the crisis.
In conclusion, the new accounting rules pose a significant threat to banks amid the coronavirus crisis. The increased provisioning requirements and reduced lending can have far-reaching consequences for the economy and financial stability. It is essential for regulators and policymakers to work together to address these challenges and ensure that the banking sector can continue to support the economy during this difficult time.