Paper on Expected Credit Loss

Paper on Expected Credit Loss

Paper on Expected Credit Loss

MUMBAI – The Reserve Bank of India plans to float a discussion paper on introduction of expected credit loss framework for banks, said Deputy Governor M. Rajeshwar Rao at an event organised by IMC Chamber of Commerce and Industry. The excerpts from his speech are:

  • Banks in India follow the incurred loss approach for loan loss provisions, while the bigger non-banking financial companies are following the more forward-looking expected credit loss approach for estimating credit losses.
  • Therefore, to achieve global convergence in regulations, we are proposed to issue a discussion paper on the introduction of a framework on expected credit loss for the banks.
  • The idea of the discussion is to formulate principle-based guidelines supplemented by the regulatory backstops, wherever necessary.
  • Currently, banks in India follow RBI’s guidelines, where provisioning is done once an account is recognised as non-performing.
  • Under the Indian Accounting Standards, which are in sync with the International Financial Reporting Standards, provisioning is done by banks based on expected losses. Banks in India were supposed to adopt the new accounting system starting April 2018, but the implementation was deferred till further notice.

Financial Reporting Standards:

  • Speaking at an event organised by the International Monetary Fund on Tuesday, former RBI deputy governor Viral Acharya had questioned the non-adoption of the International Financial Reporting Standards in India.
  • He argued that concessions given to public sector banks in provisioning for stressed loans have a spillover effect on the rest of the banking system.
  • He further said that the source of all these problems is that there is lack of capital to put into public sector banks. The government does not want to use its kitty or the purse for public sector banks. This, now, is a big negative spillover to the rest of the system.
  • Karan Gupta, director – financial ratings at India Ratings, said that when the RBI had first proposed to implement the new accounting system where provisioning would be based on expected credit loss, the capital positions of most public sector banks were weak, and their provision coverage ratios were also not as high as the current levels.
  • He added further that public sector banks were going through the corporate asset quality cycle, hence migrating to a new system would have further strained their capital. All these factors delayed its implementation. However, the situation has improved drastically now, Gupta added.
  • Also Mr. Gupta feels that Corporate stress is largely behind, capital levels are well above minimum regulatory level for most banks, and lenders have shored up provisions. This augurs well for moving to the expected credit loss regime where the impact would be far lesser today than when it was slated to be implemented earlier.


  • RBI Deputy Governor Rao said that preliminary assessment shows that the health of the banking sector is encouraging.
  • However, banks have to prudently ascertain whether improvement in the asset quality is due to better business fundamentals, owing to deleveraging and efficiency gains, or because of support extended by authorities.
  • “It is being increasingly debated in the global fora whether the pandemic-induced measures have led to build-up of leverage and debt overhang in the non-financial sectors,” he said.
  • “We expect banks and other financial institutions to proactively undertake stress testing of their loan books, subjecting them to various levels of stress, including extreme scenarios to estimate the loss absorption limits, wherever available at their disposal and take measures to augment the same…”
  • Rao said that the preliminary data shows gross and net non-performing asset ratios improving compared to pre-pandemic levels. Capital and loan growth has also improved.
  • He said that preliminary data shows gross NPA ratio of banks falling to 5.97% as on March-end from 9.23% in September 2019. In the same period, net NPA ratio improved to 1.7% from 3.66%, while provision coverage ratio increased to about 86.8% from 77%.
  • He said that while restructured book of banks expanded owing to restructuring of COVID-hit loans, the situation is stabilising gradually.
  • “These data points do give us a degree of comfort at this juncture. However, we may also have to wait a big longer to see how the impact completely plays out.”
  • Going ahead, the task is to ensure that the financial system comes unscathed from the pandemic-driven regulatory forbearances, Rao added.

Reported by Alekh Archana

Edited by Tanima Banerjee

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