COVID & CECL: The Short-Term and Long-Term Impact
While it is too early to quantify the impact of the COVID-19 pandemic on the US banking sector, its influence is already being felt with recent announcements by US banking regulators and the Financial Accounting Standards Board (FASB) that soften the requirements for reporting on the Current Expected Credit Loss (CECL) accounting standard.
April 2020 marks the first reporting period for CECL for large, publically listed institutions. However, given the need for staff to work from home, it is recognized that compiling the results for the first time to standard might be too challenging. Therefore, these institutions are being allowed to delay their CECL reporting to later in the year, either when the pandemic ends or 31st December 2020 at the latest.
Given the gyrations of the stock market, the collapse of economic activity, and skyrocketing unemployment statistics during the peak of the outbreak, one might argue that producing the results and capitalizing (to satisfy regulators) for them realistically and accurately is next to impossible.
Furthermore, many feel there is a pressing need for banking capital to be made available for lending to US businesses and consumers at the earliest opportunity.
While the short-term impact of COVID on CECL is clear-cut, its longer impact is more open to speculation. Some themes are likely identifiable already.
Rising expectations of greater resilience
The COVID-19 pandemic has proven to be highly disruptive for all businesses globally. There will be lessons learnt but there will be an expectation that businesses will need to be more resilient in their operations in the future if they are to survive.
Inefficient manual workarounds that only work in the office will nicht be justifiable from a manager’s point of view, or that of an auditor or regulator. Automation will likely become the only way of delivering core business processes for any business.
For CECL, especially for smaller banks, business processes will be scrutinized closely. The expectation that automation should be applied, especially around the use of uncontrolled CECL spreadsheets, becoming difficult to ignore.
Another challenge is the nature of significant events, which possess a small probability of occurring, but which feature great disruption if they do. Known as black swan events, the integrated nature of the global economy means their impact can be transmitted ever faster (literally and figuratively) across the globe in a matter of days and weeks. The COVID-19 pandemic is an obvious example, likewise the financial crisis of 2008.
Regional issues, like Brexit or regional wildfires, for example, can have significant regional economic impact. These can have material impact on CECL results for large institutions, as well as smaller, localized ones.
For the forward-looking models that are a feature of CECL, these may need to be modified and adapted to recognize new, perhaps unanticipated, economic shocks. These models – which may use complex applications, or even only basic spreadsheets – will need to be managed and changed, often at short notice. Changes to these models will need to be managed and monitored to maintain the models’ accuracy, auditability, and transparency.
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