Measuring the procyclicality of impairment accounting regimes: a comparison between IFRS 9 and US GAAP

Este artículo pretende comparar el comportamiento cíclico del provisionamiento para riesgo de crédito bajo varios regímenes contables, en particular IAS 39, IFRS 9 y US GAAP. Modelizamos el impacto del deterioro crediticio en la cuenta de pérdidas y ganancias en los tres casos. Nuestros resultados sugieren que IFRS 9 es menos procíclico que su antecesor (IAS 39) pero más procíclico que US GAAP, puesto que requiere provisionar el crédito no deteriorado (Stage 1) únicamente a un año vista. En contraste, bajo US GAAP las pérdidas para toda la vida del crédito se provisionan en origen, lo que hace que el volumen de nuevo crédito y las pérdidas incurridas estén negativamente correlacionadas. Lo anterior conduce a provisiones relativamente mayores (menores) durante las fases expansivas (contractivas) del ciclo financiero. En todo caso, la menor prociclicidad de US GAAP se alcanza a costa de un aumento considerable de las provisiones.The purpose of this paper is to compare the cyclical behavior of various credit impairment accounting regimes, namely IAS 39, IFRS 9 and US GAAP. We model the impact of credit impairments on the Prot and Loss (P&L) account under all three regimes. Our results suggest that although IFRS 9 is less procyclical than the previous regulation (IAS 39), it is more procyclical than US GAAP because it merely requests to provision the expected loss of one year under Stage 1 (initial category). Instead, since US GAAP prescribes that lifetime expected losses are fully provisioned at inception, the amount of new loans originated is negatively correlated with realized losses. This leads to relatively higher (lower) provisions during the upswing (downswing) phase of the financial cycle. Nevertheless, the lower procyclicality of US GAAP seems to come at cost of a large increase in provisions

The New Basel Capital Accord: Structure, Possible Changes and Micro- and Macroeconomic Effects. CEPS Reports in Finance and Banking No. 30, 1 September 2002

During the last 12 years, the 1988 Basel Capital Accord dealing with minimum capital requirements for internationally active financial institutions has grown more pervasive, being integrated into national regulations in most advanced countries. Meanwhile, the limitations and drawbacks of the simple rules on which it is based have become increasingly apparent. In other words, the existence of a gap between supervisory requirements and risk-based measures of economic capital has led to forms of regulatory arbitrage (whereby loopholes in the regulation have been exploited to increase the real leverage of a bank without reducing its capital ratios). Paradoxically, the inability of the 1988 protocol to discriminate between investment grade and junk borrowers might also have made some financial institutions more risk-seeking, instead of helping them control their risks. To address such challenges, the Basel Committee on Banking Supervision has been engaged for several years in a revision process that will finally lead to a New Basel Capital Accord (NBCA). Remarkably, the new Accord is not being engineered inside a secluded laboratory by a handful of regulators and financial rocket-scientists, but its contents have been thoroughly discussed by national supervisors, banks and academics. Thus, the NBCA drafting has become a meeting point for many different perspectives: legal experts, accountants, bank managers, central bankers and finance scholars (to name only a few) have been working together, merging their professional backgrounds to make the NBCA more robust in its structure and parameters. This report tries to provide a complete, up-to-date, critical picture of the new Basel approach to bank capital, by summarising its structure and possible changes, and by focusing on some limitations and pitfalls that might deserve further investigation

Three essays on macroprudential policy

This doctoral thesis gathers three studies on different aspects of macroprudential policy and financial stability. The research questions featured in each of its parts are to be seen as complementary: one chapter concentrates on mortgage credit markets, another one explores the business decisions of banking institutions, while the remaining one considers the potential international implications of borrower-based measures.The first paper introduces a simplified picture of the mortgage credit market and itsbehaviour under regulatory constraints related to borrower-based macroprudential policies. More precisely, the chapter presents an assessment of the effects of loan-to-value (LTV) ratiocaps for housing mortgages using an agent-based model. Sellers, buyers and banks interact within a computational framework that enables the application of LTV caps to a one-stephousing market. The initial exercise, which relies upon simulated distributions of buyers and sellers, is followed by a more realistic setup calibrated through actual European data from the Household Finance and Consumption Survey. In both cases, the application of an LTV cap results in a modified distribution of buyers along property values, bidding prices and properties sold, depending on the shape of the probability distributions of the LTV ratio, wealth and debt-to- income ratios considered. The results are of similar magnitude to other studies in the literature embodying other analytical approaches and suggest that this methodology can potentially be used to gauge the impact of common macroprudential measures..

Safe and Sound Banking: A Role for Countercyclical Regulatory Requirements?

Most explanations of the crisis of 2007-2009 emphasize the role of the preceding boom in real estate and asset markets in a variety of advanced countries. As a result, an idea that is gaining support among various groups is how to make Basel II or any regulatory regime less procyclical. This paper addresses the rationale for and likely contribution of such policies. Making provisioning (or capital) requirements countercyclical is one way potentially to address procyclicality, and accordingly it looks at the efforts of the authorities in Spain and Colombia, two countries in which countercyclical provisioning has been tried, to see what the track record has been. As explained there, these experiments have been at best too recent and limited to put much weight on them, but they are much less favorable for supporting this practice than is commonly admitted. The paper then addresses concerns and implementation issues with countercyclical capital or provisioning requirements, including why their impact might be expected to be limited, and concludes with recommendations for developing country officials who want to learn how to make their financial systems less exposed to crises.Financial crisis, Securitization, Regulation and Supervision, Safety Nets

BASEL II: THE REVISED FRAMEWORK OF JUNE 2004

A major aim of Basel II has been to revise the rules of the 1988 Basel Capital Accord in such a way as to align banks´ regulatory capital more closely with their risks, taking account of progress in the measurement and management of risk and of the opportunities which these provide for strengthened supervision. Achievement of this aim has involved the incorporation in Basel II of methods for quantifying banking risks introduced since the late 1980s. The task of the designers of Basel II has been complicated by the way in which the BCBS´s rules for banks´ capital, originally intended for the internationally active banks of its member countries, have become a global standard widely applied in developing as well as developed countries. Acceptance of this role by the BCBS has entailed a global consultation process, whose results have been reflected in three consultative papers and the RF, and the different approaches and options for setting numerical capital requirements which are intended to accommodate banks and supervisors of different levels of sophistication. As well as providing a commentary on the main features of the RF this paper documents the response of the BCBS to some of the more important points which were raised during this consultation process, including the outcome of decisions taken at a meeting in Madrid in October 2003 following comments on the consultative paper of April 2003, and summarises the results of the most recent of the BCBS´s initiatives to estimate the quantitative impact of the Basel II rules on banks´ capital. This discussion includes a review of papers issued by the BCBS as part of the last stage of its work preceding the RF.

Banks' procyclicality behavior: does provisioning matter?

URL des Cahiers : https://halshs.archives-ouvertes.fr/CAHIERS-MSECahiers de la Maison des Sciences Economiques 2006.35 - ISSN 1624-0340A panel of 186 European banks is used for the period 1992-2004 to determine if banking behaviors induced by the capital adequacy constraint and the provisioning system, amplify credit fluctuations. Our finding is consistent with the bank capital channel hypothesis, which means that poorly capitalized banks are constrained to expand credit. We also find that loan loss provisions (LLP) made in order to cover identified credit losses (non discretionary LLP) amplify credit fluctuations. Indeed, non discretionary LLP evolve cyclically. This leads to a misevaluation of expected credit risk which affect banks' incentives to grant new loans since lending costs are misstated. By contrast, LLP use for management objectives (discretionary LLP) do not affect credit fluctuations. The findings of our research are consistent with the call for the implementation of dynamic provisioning in Europe.Un panel de 186 banques européennes sur la période 1992-2004 est utilisé pour déterminer si les fluctuations de l'offre de crédit des banques sont amplifiées par la contrainte réglementaire sur les fonds propres et par les règles de provisionnement. Nos résultats sont en accord avec l'hypothèse du canal du capital bancaire : les banques faiblement capitalisées se trouvent contraintes pour accroître leur offre de crédit. Nous montrons également que les provisions contractées pour couvrir des pertes identifiées (provisions non discrétionnaires) amplifient les fluctuations de l'offre de crédits. En effet, ces provisions non discrétionnaires évoluent de façon cyclique et conduisent à une mauvaise prise en compte des pertes anticipées. L'incitation de la banque à offrir du crédit est donc affectée dans la mesure où les coûts liés à l'accord d'un crédit sont mal évalués. D'autre part, la proportion des provisions utilisée pour des objectifs de management (provisions discrétionnaires) n'affecte pas les fluctuations de l'offre de crédit. Les résultats de cet article conduisent à recommander la mise en place d'un système de provisionnement dynamique en Europe

Advanced Dependency Modeling in Credit Risk - Lessons for Loss Given Default, Lifetime Expected Loss and Bank Capital Requirements

This cumulative thesis contributes to the literature on credit risk modeling and focuses on comovements of risk parameters that intensify losses during recessions. The models provide more precise estimates of credit risk and a better understanding of systematic risk. This can improve risk-based capital reserves and can help to avoid a severe underestimation of risk and capital shortfalls in economic downturn periods. Furthermore, the discussion of regulatory requirements and the supervision of internal risk models can benefit from empirical results. The first study extends the scope of loss given default (LGD) modeling by proposing the quantile regression to separately regress each quantile of the distribution. This approach enables a new look on covariate and particularly downturn effects that vary over quantiles. The second study analyzes the length of workout processes by a Cox proportional hazards model. Systematic effects are examined by the inclusion of time-varying frailties. The third study presents a copula model for the lifetime expected loss that combines accelerated failure time models for the default time with a beta regression of the LGD. The use of copulas provide continuous-time LGD forecasts and flexible dependence structures between default risk and loss severity. The fourth study combines a Probit model for the probability of default and a fractional response model for the LGD to demonstrate the impact of revised loan loss provisioning on bank capital requirements. In addition, goodness-of-fit measures enable to validate these approaches. Simulation studies and analyses of representative portfolios provide implications and demonstrate the significance of empirical results

Current Expected Credit Losses (CECL) Standard and Banks’ Information Production

We examine whether the adoption of the current expected credit losses (CECL) model, which reflects forward-looking information in loan loss provisions, improves banks’ information production. We find that CECL adopting banks’ loan loss provisions are timelier and better reflect future local economic conditions. Consistent with these outcomes resulting from better information production, we find that CECL adopting banks have fewer loan defaults and disclose more forward-looking information after adopting CECL. In addition, the improvement in the quality of loan loss provisions is greater for banks that invest more in CECL-related information systems and human capital, a plausible channel for improved information production. Finally, CECL adopters’ lending becomes less sensitive to economic uncertainty. Our findings suggest that banks benefit from better information quality by adopting a more forward-looking accounting standard