The Basel Committee of Banking Supervision on Friday issued new guidance on Friday setting out expectations for ensuring that banks promptly account for their loan losses.
The guidance, which includes 11 principles, establishes supervisory expectations for banks in assessing and accounting for credit risk, as part of a shift to so-called “expected credit loss (ECL)” accounting.
The 11 principles include guidelines for bank regulators when evaluating credit risk practices, accounting for expected credit losses, and the assessing a bank’s capital position.
The move to ECL accounting frameworks by accounting standard setters “is an important step forward in addressing the weakness identified during the financial crisis that credit loss recognition was too little, too late,” the Basel Committee says in a statement.
Some banks were slow to realize their building credit losses during the financial crisis, which prevented accurate assessments of their financial condition, and contributed to the severity of the crisis.
Failing to detect rising credit risks in a timely manner “can aggravate underlying weaknesses in credit quality, adversely affect bank capital adequacy, and hinder appropriate risk assessment and control of a bank’s credit risk exposure,” the Basel Committee adds.
The guidance sets out the Basel Committee’s view on the proper application of ECL accounting standards, and is intended to be complementary to those standards. “It provides banks with supervisory guidance on how the ECL accounting model should interact with a bank’s overall credit risk practices and regulatory framework, but does not set out regulatory capital requirements on expected loss provisioning under the Basel capital framework,” the Basel Committee says.