Recently, the Reserve Bank of India constituted an external working group on an expected credit-loss-based (ECL) framework for provisioning by banks.
- The working group will be chaired by R Narayanaswamy, a former professor at IIM Bangalore.
- It will also have domain experts from academia and industry, and representatives of select banks.
- This comes after the RBI released a discussion paper in January 2023 on shifting from the incurred-loss approach to the ECL model to make the banking system more resilient.
- ECL is a method of accounting for credit risk based on the loss likely to occur on a loan or portfolio of loans.
- It is used to get an understanding of the potential future losses on financial assets and how those losses can be identified and addressed in the financial statements.
- Through ECL, banks can estimate the forward-looking probability of default for each loan, and then by multiplying that probability by the likely loss given default, the bank gets the percentage loss that is expected to occur if the borrower defaults.
