{"id":229029,"date":"2023-02-27T20:38:59","date_gmt":"2023-02-27T15:08:59","guid":{"rendered":"https:\/\/blog.forumias.com\/?p=229029"},"modified":"2023-02-27T20:38:59","modified_gmt":"2023-02-27T15:08:59","slug":"rbis-provisioning-rule-proposal-for-bad-loans-is-good-for-banks","status":"publish","type":"post","link":"https:\/\/forumias.com\/blog\/rbis-provisioning-rule-proposal-for-bad-loans-is-good-for-banks\/","title":{"rendered":"RBI\u2019s provisioning rule proposal for bad loans is good for banks"},"content":{"rendered":"\n

Source<\/strong>– The post is based on the article \u201cRBI\u2019s provisioning rule proposal for bad loans is good for banks\u201d <\/strong>published in the mint <\/strong>on 27th February 2023<\/strong>.<\/p>\n

Syllabus: <\/strong>GS3- Indian economy and mobilisation of resources<\/p>\n

Relevance:<\/strong> Issues related to banking sector<\/p>\n

News- <\/strong>The Reserve Bank of India recently proposed to adopt the Expected Credit Loss (ECL) approach under the International Financial Reporting Standard (IFRS-9).<\/p>\n

What is the current RBI approach for NPAs?<\/strong><\/h2>\n

RBI regulations consider non-payment of 90-plus days<\/strong> for classifying an asset as \u201cnon-performing\u201d<\/strong>. Banks are currently making provisions after assets are identified as non-performing.<\/p>\n

For provisioning, Indian banks are subjected to a gradual age-wise provision rule<\/strong> for sub-standard assets. It starts from 15% in the first year and goes to 100% in the fourth year. This is irrespective of whether collateral is available or not.<\/p>\n

What are some facts about Expected Credit Loss?<\/strong><\/h2>\n

An Expected Credit Loss is defined as a loss anticipated on a credit exposure or credit portfolio <\/strong>due to defaults expected to occur during the normal course of business.<\/p>\n

The major inputs of ECL are: a) Probability of Default (PD); b) Exposure at Default (EAD); and c) Loss Given Default (LGD)<\/strong>.<\/p>\n

The PD is an estimate of the likelihood of default<\/strong> over a given time horizon.<\/p>\n

EAD provides an estimate of the exposure at a future default date<\/strong>, taking into account expected changes in the exposure after the reporting date.<\/p>\n

LGD is an estimate of the percentage loss<\/strong> arising from default. It is based on the difference between the contractual cash flows due and those that the lender would expect to receive, including from any collateral.<\/p>\n

What are some facts about the Expected Credit Loss approach for NPAs?<\/strong><\/h2>\n

ECL-based provisioning norms under IFRS-9 require institutions to use point-in-time projections of PDs, LGDs and EADs<\/strong>.<\/p>\n

The new financial accounting system requires banks and other financial institutions to internally model the key elements of their credit risk loss, stay forward-looking<\/strong> and derive more risk-sensitive measures<\/strong> for loan-loss provisions.<\/p>\n

IFRS-9 or Ind-AS-109 accounting standards<\/strong> explicitly require provisions and loss allowances to be made as per ECL data. RBI\u2019s prescribed expected credit loss principle <\/strong>is in line with the IFRS-9 standard.<\/p>\n

ECL-based provisions are to be applied at origination and for all subsequent reporting periods<\/strong> of loan assets till their de-recognition.<\/p>\n

Three stages<\/strong> have been specified under the new accounting standard to determine the amount of impairment to be recognized as ECL at each reporting date.<\/p>\n

For Stage 1 assets<\/strong> that at initial recognition show low credit risk<\/strong> on the reporting date, a 12-month ECL based provisioning<\/strong> is applicable.<\/p>\n

Banks need to assess at each reporting date whether the credit risk<\/strong> on a corporate loan has increased significantly since initial recognition. Thus, the asset reaches Stage 2<\/strong>. At this stage, allowances are to be made based on lifetime analysis of any expected loss<\/strong>.<\/p>\n

If the loan is credit impaired, it will be put under Stage 3<\/strong>. The standard requires that provisions be based on lifetime expected losses<\/strong> with the probability of default taken as 100%<\/strong>.<\/p>\n

What are the positive aspects of ECL based provisioning approach for NPAs?<\/strong><\/h2>\n

The new accounting standards aim to simplify and strengthen risk measurement<\/strong> and the reporting of financial instruments in an efficient and forward-looking manne<\/strong>r.<\/p>\n

The ECL based provision measure will enable banks to more pro- actively identify credit impairment<\/strong> and make necessary loss provisions.<\/p>\n

Early detection of a significant increase in credit risk may incentivize <\/strong>banks to go in for better credit portfolio planning<\/strong> and lower their prospective non-performing asset burdens.<\/p>\n

The ECL methodology takes into account historical PD trend<\/strong>s as well as current and future economic scenarios and predictions. Thus, it significantly changes the incentives<\/strong> of banks by inclining them to manage and dispose of bad loans<\/strong> much more actively.<\/p>\n","protected":false},"excerpt":{"rendered":"

Source– The post is based on the article \u201cRBI\u2019s provisioning rule proposal for bad loans is good for banks\u201d published in the mint on 27th February 2023. Syllabus: GS3- Indian economy and mobilisation of resources Relevance: Issues related to banking sector News- The Reserve Bank of India recently proposed to adopt the Expected Credit Loss… Continue reading RBI\u2019s provisioning rule proposal for bad loans is good for banks<\/span><\/a><\/p>\n","protected":false},"author":10320,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"jetpack_post_was_ever_published":false,"footnotes":""},"categories":[1230,9],"tags":[216,11126],"class_list":["post-229029","post","type-post","status-publish","format-standard","hentry","category-9-pm-daily-articles","category-public","tag-gs-paper-3","tag-the-mint","entry"],"jetpack_featured_media_url":"","views":{"total":0,"cached_at":"","cached_date":1704827438},"jetpack_sharing_enabled":true,"_links":{"self":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts\/229029","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/users\/10320"}],"replies":[{"embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/comments?post=229029"}],"version-history":[{"count":0,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts\/229029\/revisions"}],"wp:attachment":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/media?parent=229029"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/categories?post=229029"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/tags?post=229029"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}