In an interview with CNBC-TV18, Sunil Mehta, former chief of the Indian Banks’ Association (IBA), said the transition is expected to make provisioning requirements more realistic and improve the transparency of the banking sector.
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This is the verbatim transcript of the interview.
Q: This discussion has been on for many months. The first concept on ECL was floated much earlier this year, and the whole concept deals with the fact that you need to start recognizing stress before the delinquencies happen before the delays in payments start happening. So now, at an industry body level, what’s the thought? Is the Indian banking sector ready for it? And what could be the immediate sort of increase in credit costs, and provisioning, what will the numbers look like once this is rolled out?
A: We have been in discussion with the RBI, and we have been discussing within the industry about the expected credit loss and its impact on the industry. What we understand from the entire ecosystem is that the ecosystem is gearing for it and this will make the provisioning requirement more realistic because this is based on the expected credit loss that will be more realistic based on the empirical data and the time series data which the banking system has on the losses on a particular type of assets.
So the thumb rule approach will go away, and the ECL approach will step in, and that will improve the balance sheet transparency of the banking system. So in a way, the move in the long run, will strengthen the banking system.
Q: ICRA put out a note on this earlier, and ICRA said that this whole transitioning to IndAS – the impact on core capital for banks could be as much as 300 to 400 basis points (bps), including the ECL transition itself. So it’s overall Ind-AS plus ECL. Could it be that high? What could be the impact on capital requirements? Some more colour on this.
A: So as regards capital requirement, if you analyze the data of the banking system, most of the banks especially major systems already have capital adequacy of 200 bps more than what is required under the norms. So that much cushion is already available.
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As regards the transition, the Governor has also said very clearly that this is a phase in which it will be put up on the discussion papers, views will be invited from the stakeholders, and this will be implemented in the phases. So the system is already geared up. The banking system is already well capitalized, and this is the right time for transition to the LCR system because ultimately, banks are in a position to withhold their existing capital positions, support the ECL transition and make the balance sheet more robust in the time to come.
Q: Just to complete this point. And then we will ask you about the new LCR rules as well. From an operational standpoint, what changes for a bank once you move to ECL, because you don’t wait for a delay in payment. You have to start recognizing that stress earlier so you know what changes operationally on the ground, if at all?
A: Basically, the historical data which banks have about each segment of the credit book, they have historical data that what is the expected credit loss in each case, and depending upon the various parameters for every individual asset, the expected credit loss can be identified in networks and because multiplication probability factor is already available with the banking system, and that will help them to provide it for.
The way RBI prescribed provisioning norms even for standard assets, the same way, the provisioning norm for the existing standard assets which were not fallen into NPA, the bankers will have to start making slight provisions keeping their historical data in mind. That will help them strengthen their balance sheet in time to come. And this transition will require a good set of data with the banking system. Till they don’t have their own set of data, they will have to rely on the industry averages, which are available, and that will convert into the probable capital, or the provisioning requirement for individual segments of the credits.
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This will facilitate two more things. One thing, is because the provisioning will be on the expected credit loss, bankers will become extra quality conscious, and quality consciousness will help them building a better loan book.
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