BIS Outlines Four Essentials for Credit Risk Management

The Joint Forum of the Basel, Switzerland-based Bank for International Settlements (BIS) has published its report entitled ‘Developments in credit risk management across sectors: current practices and recommendations’.

It follows a survey of supervisors and firms in the banking, securities and insurance sectors globally, with the aim of understanding the current state of credit risk management following major market and regulatory changes since the 2008 financial crisis. Fifteen supervisors and 23 firms from Europe, North America and Asia responded to the survey.

“The survey was not meant to be a post-mortem of the events leading up to the financial crisis, but rather a means to provide insight into the current supervisory framework around credit risk, the state of credit risk management at firms and implications for the supervisory and regulatory treatments of credit risk,” stressed the Joint Forum, whose parent committees are the Basel Committee on Banking Supervision (BCBS), the International Organisation of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors (IAIS).

“The survey aimed to update previous Joint Forum work, most recently a 2006 paper, and used that date as the benchmark when asking about changes.”

Having analysed the responses and then discussed with firms, the Joint Forum makes four main recommendations for consideration by supervisors.

• Supervisors should be cautious against over-reliance on internal models for credit risk management and regulatory capital. Where appropriate, simple measures could be evaluated in conjunction with sophisticated modelling to provide a more complete picture.
• With the current low interest rate environment possibly generating a “search for yield” through various mechanisms, supervisors should be cognisant of the growth of such risk-taking behaviours and the resulting need for firms to have appropriate risk management processes.
• Supervisors should be aware of the growing need for high-quality liquid collateral to meet margin requirements for over-the-counter (OTC) derivatives sectors, and if any issues arise in this regard they should respond appropriately. The Joint Forum’s parent committees (BCBS, IAIS and IOSCO) should consider taking appropriate steps to monitor and evaluate the availability of such collateral in their future work while also considering the objective of reducing systemic risk and promoting central clearing through collateralisation of counterparty credit risk exposures that stems from non-centrally cleared OTC derivatives.
• Supervisors should consider whether firms are accurately capturing central counterparty exposures as part of their credit risk management.

“The challenges for credit risk management have evolved considerably in the last years,” said Thomas Schmitz-Lippert, Joint Forum chairman and executive director, international policy at the German Federal Financial Supervisory Authority (BaFin).

“This report provides important new insights into the latest developments in credit risk management against the backdrop of a reformed regulatory framework and the emergence of new risks.”

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