Bank of Russia mandates use of internal ratings-based approach to creation of provisions
The banks that have switched to the internal ratings-based approach (IRB approach) to calculating regulatory capital requirements are authorised to use their own credit risk assessment methodology and models in the creation of provisions, effective from 2021.
The new approach enables banks to calculate provisions for bad loans to individuals and small and medium-sized enterprises based on estimates for potential loan losses. This means they may forgo general approaches to the creation of provisions applicable to all other credit institutions.
To calculate loan loss provisions, banks can use key components of current rating systems (including probability of default, loss given default and exposure at default estimation) used to measure credit risk under the internal-ratings approach.
The Bank of Russia regulation comes into force from early 2021. The Bank of Russia expects the regulatory innovation to bring about positive effects for credit institutions; banks that have switched to the IBR approach are entitled to apply the principle on a voluntary basis.