The Bank Policy Institute (BPI), an organization conducting research and advocacy on behalf of America’s leading banks, recently wrote a letter to the chairman of the Financial Stability Oversight Council (FSOC), Stevin Mnuchin, with a request to review the risks associated with the implementation of the new current expected credit loss (CECL) model.
There were 50 names of financial institutions on the letter supporting the request, including well-known banks such as BB&T, Bank of America, and Wells Fargo.
Greg Baer, the president and CEO of the Bank Policy Institute, said in the letter that they “…believe that the implementation of CECL could undermine financial stability in a future recession or financial crisis, as its requirements establish disincentives for banks to extend credit during stressed economic conditions.”
The standard requires a day-one recognition of all expected credit losses over the life of the loan. However, as stated in the letter, it does not account for expected interest income in a potential economic downturn. This may cause banks to decrease lending activities to avoid a potential negative impact on their financial statements.
The letter also described how CECL may have a disproportionate impact on longer-term assets of high risks, such as residential real estate, small business or student loans. This could alter the loan availability, pricing and structure of these “riskier” assets in significant ways during economic cycles.
“Unfortunately, the life-of-the-loan loss recognition requirement actually magnifies the losses that must be recognized at the outset of an economic downturn, as projected losses over the life of a loan may increase rapidly as macroeconomic forecasts deteriorate,” wrote Baer, as he continued to explain how CECL’s impact may also be enlarged for banks subject to regulatory capital requirements, such as Basel III and the Federal Reserve’s supervisory stress tests.
A potential extension is not a transition delay
Because the impact is uncertain, Baer is urging that the FSOC analyze the potential risks associated with CECL and work with the Financial Accounting Standards Board (FASB) on postponing the effective date for presumably SEC-filers, who are required to adopt the standard on Dec. 15, 2019. “As CECL is not yet effective, there is sufficient time to delay implementation to further study its shortcoming and mitigate its unintended consequences,” the letter states.
This is not the first time that organizations have pushed for a delay of the implementation timeline. Back in September, non-public business entities requested and succeeded in getting FASB to change their effective date. Banks are speaking out for relief and regulatory agencies seem to be listening.
However, even with a potential delay, CECL should not be taken lightly. When the extension for non-PBEs was passed, Shayne Kuhaneck, an assistant director at FASB, stated during a CECL implementation webcast that, “I travel around to quite a few different venues, speaking to a pretty broad swath of stakeholders. The consistent message is that data continues to be challenging, and so I would recommend not slowing down and I would recommend continuing to collect that data and if you haven’t started, to start, to see where your gap is. While you have the extra time, I think it’s a perfect opportunity to keep moving forward with your plans.”
In the meantime, banks should be leveraging the right resources to make progress in their transition structures.