Towards a More Stable Banking Financial Position COVID-19 Impacts and IFRS 9 Post-Model Practices “Management Overlays”

Abstract

In the repercussions of the latest worldwide financial crisis that have occurred due to the corona virus reasons (COVID-19); unprecedented stressful economic conditions prevailed, coupled with significant recessionary waves reasoned of the worldwide imposed strict lock downs that have adversely affected most of the economic sectors across the globe. Based on such adverse conditions, and as banks were used to calculate their Expected Credit Losses (ECLs) within the provisioning systems (IFRS 9); the forward looking projections embedded at the banks models fell short to predict the COVID-19 hit, as well as objectively reflect the widely spread governmental rescue plans, such as payment holidays and moratoria schemes. Consequently, and based on such unprecedented challenges, new risk management practices—Management Overlays—have risen to help in terms of overcoming such a systemic uncertainty situation that added more hurdles with regard to banks models and forecasting powers. The researcher is discussing how banks can start using the management overlays, or post-model adjustments, according to each and every bank’s portfolio composition, trends, and stress testing outcomes, where risks and uncertainties cannot be adequately reflected in existing models, until the global regulators (e.g., central banks, and external auditing bodies), as well as the main research and rating agencies can reach and agree on the new set of the updated macroeconomic indicators that can be utilized globally, and per region, reflecting the new era post COVID-19, and supporting in building the new robust IFRS 9 models across the world effectively. Therefore, management overlays can play such a vital role in terms of fortifying the stability of the banking system through: ascertaining the adequacy of the banking provisioning systems, and guaranteeing the sufficiency of holding appropriate capital levels for confronting such an adverse and unprecedented situation of the COVID-19 pandemic, as well as similar situations in the future.