Could Ballooning Loss Reserves From New Accounting Rules Deflate Bank Capital Ratios?

Could Ballooning Loss Reserves From New Accounting Rules Deflate Bank Capital Ratios?

Sweeping new rule changes for the way banks estimate credit losses in their financial reports likely will have a significant impact on banks applying International Financial Reporting Standards or U.S. Generally Accepted Accounting Principles. The changes are the culmination of a key objective to shift the accounting for credit losses to a more forward-looking, counter-cyclical credit impairment model that will require earlier recognition of credit losses–a weakness highlighted during the last financial crisis. As a result, capital and earnings could become less predictable and bank managements may seek to build higher capital buffers to mitigate this effect, although the extent to which bank regulators will adapt regulatory capital requirements remains to be seen. Higher loan-loss reserve levels may also affect banks’ planned distributions of capital in the form of dividends or share buybacks. Bank managements may take actions such as increased pricing on certain loan products or shortening loan durations, to help offset the potential accounting consequences

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