Hey, the bankers are rethinking

I had tagged several bankers in my critique on whether or not the financial sector was doing enough during these COVID times, and Wick Veloso, current President of the Bankers Association of the Philippines dropped me a one-liner, “you should hear the Bankers’ plea to help — call me for clarity,” which I of course happily obliged. We discussed our mutual experience of the 2008 crisis and he pointed out the IFRS-9 regulation (IFRS stands for International Financial Reporting Standards), created by the International Accounting Standards Board (IASB) as a response to the crisis; the purpose of which was to protect citizens from a repeat of future irresponsibility by tying the banks’ hands from taking on too much risk. In effect, what IFRS-9 does is project risk of default of clients for the next several years (generally, five) into the future, attach a fair value of that to the present and then set provisions aside today to cover those risks. Which all sounds like a reasonable regulation no one would argue with, with no question to its premise, except apparently in the whammy that is COVID.

In COVID times, we are unable to determine what will happen in three days, let alone five years. We are unable to understand whether or not the replication rate of the virus will reach a point wherein the government must necessarily shut a business down, and if so, for how long, and, in the good scenario that the shut-down is a temporary thing, then how long until the revenues recover, and if the revenues do not recover, then how long until a permanent end to the business, and consequently how high of a risk the cash flows will not be able to cover the loans taken precisely to expand a pre-languishing business. If IFRS-9 were to put every business on the spot today, no one business would be able to provide an accurate description of their near-term cashflows, holding everyone as likely to default.

I said, why then can’t anyone lobby to just change these rules for now? Well, Veloso says, these rules are so entrenched in international best practice that no one would want to stick out like a sore thumb to rally against it. And indeed, it wouldn’t look too nice, admittedly, banks wanting to circumvent regulation to yet again get rid of bad debt, something we were all too familiar with during the global financial crisis. And obviously, the central bank, as much as it would want to encourage more lending, would never actively convince banks to undervalue their provisions; it is the central banks onus to make sure the banks keep these conservative.

And if this is the case, then what would any bank in their right mind, with all their sophisticated loan default modelling, have as an option? What then is there to be done when this fiduciary duty does not result in the betterment of society?

Veloso says, let’s classify all clients as current; that is, do not put them in the usual stages of provisional default, stage one, two, three. Instead, just label them as basically “clean” or “unclean” and allow those “clean” to borrow as if they are not in risk of default. Just by mere classification, banks are able to then implement IFRS-9 and yet have the latitude to decide on creditworthiness, apart from merely restructuring loans, to treat clients as non-defaulters. To wit, he says, let’s forgive anyone that needs to be forgiven today, without needing to look at their past records to compare with today, without needing to calculate in sophisticated ways their propensity for default. Because who even has that much of a crystal ball today? Certainly not financial theory and the credit scoring models crafted based on it.

I said, but for how long? You can’t just keep making banks current; and what about going even lower than previously? Lower rates, longer tenors. Isn’t that what we need, what we are clamouring for? A step further, go beyond. Pwede rin ‘yan! Tingnan din natin iyan. (That is also a possibility! Let us look into it.) And before he had to jump into another meeting, I said: But sir, if you base it on the bottom-line, banks are still healthy and relatively okay compared to other sectors; if you look at all the metrics, the margins aren’t squeezed if you don’t lend and you can well survive on other non-interest income, why even compromise the good standing when it doesn’t make business sense, not to mention effort to lend to the quote-unquote “unlendable.” (It sounds like such a microfinance story, perusing credit-worthiness of everyone, except now everyone is up for evaluation, even the billionaire tycoons, imagine that.) And Veloso said, because Danie, we want to help! So, there you go, the rebuttal to my last paragraph in that column where I said Banks are supposed to be pillars of the economy and not places to beg for loans.

And while we wait for such help to arrive, to me it is much more than circumventing rules written during different times for Black Swan events like the one we are in today. To me, it is the idea that during times of crises, there is a scramble for new solutions which leads to a flourishing of new ideas and alternative ways of thinking. Why even stick to financial theory? How do we even integrate physical health into calculations of financial risk, which has always just been measuring the volatility of stock returns over a period of time versus the mean return. That measure of risk has been thrown out the window these past 16 months. It’s the same way we should think of creditworthiness, how to determine whether a person will pay, when the past is no longer a valid reference and no statistics and scoring will make any pragmatic sense? Essentially: you think first of the outcome you want; and then you change the model. We created those tools, now we can edit them.


Daniela “Danie” Luz Laurel is a business journalist and anchor-producer of BusinessWorld Live on One News, formerly Bloomberg TV Philippines. Prior to this, she was a permanent professor of Finance at IÉSEG School of Management in Paris and maintains teaching affiliations at IÉSEG and the Ateneo School of Government. She has also worked as an investment banker in The Netherlands. Ms. Laurel holds a Ph.D. in Management Engineering with concentrations in Finance and Accounting from the Politecnico di Milano in Italy and an MBA from the Universidad Carlos III de Madrid.

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