In a bid to preserve viable economic activity, jobs, and livelihoods from the impact of the Coronavirus disease 2019 (COVID-19), policymakers worldwide have been quick to roll out borrower relief programs. Against a backdrop of constrained monetary and fiscal policy space, countries in Europe and Central Asia (ECA) region have quite actively used borrower relief measures, most commonly through a full or partial deferment of debt service obligations for borrowers that have experienced a significant drop in income. Most countries have explicitly sought to target borrowers that are impacted by COVID-19, while leaving borrower selection and the choice of relief measures to banks. Borrower relief measures are designed to be temporary, although there are considerable cross-country differences as to how long the measures are expected to remain in force.
On May 18, FinSAC organized a webinar to present its recent policy note about borrower relief measures in ECA region. During the webinar, the authors discussed experiences to date with borrower relief measures in the region, and presented a set of high level principles relevant for their design. Circumspect design is critical to preserve ECA region’s hard-won gains in resolving the increase in NPLs following the global financial crisis, to avoid unintended side effects and to protect the public interest in safe and sound banking systems and in financial stability more broadly.
As a starting point, it is important that policymakers have a thorough understanding of the financial impact on banks’ liquidity and capital of any borrower relief measures. The financial impact on banks needs to be factored into the design of measures, to protect the public interest in banking stability. Policymakers also need to beware of moral hazard associated with willful defaulters (who are financially capable but unwilling to pay), and zombie borrowers (whose difficulties predated COVID-19). It is also important that that the exceptional and temporary nature of borrower relief measures is broadly understood, and that policymakers promptly define exit strategies. It is also critical that measures are undertaken in a transparent manner. Banks should be expected to provide banking supervisors with reliable, frequent, up-to-date, and comparable information regarding loans that have benefitted from borrower relief measures, while banks’ financial statements need to provide investors and shareholders with sufficient information to understand the quality of the loan portfolio and credit risk control practices.
In this context, it is also important to preserve ECA countries’ hard-won gains of the past decade in aligning loan loss classification frameworks, provisioning requirements, and accounting standards with international best practices. The easing of regulatory definitions and classification and provisioning requirements should be avoided, as such measures obfuscate banks’ true asset quality challenges, undermine comparability within and across countries, distort the veracity of financial information, and blur the distinction between COVID-19-affected borrowers and zombie borrowers. It is also important that banks continue to rigorously apply the unlikeliness to pay criterion, promptly identifying borrowers impacted by COVID-19 whose short-term payment challenges are likely to transpose into long-term financial difficulties.
Lastly, the potential benefits of targeting need to be balanced with the need for speed in delivery of relief to distressed borrowers. Targeting can help to mitigate problems related to zombie borrowers, moral hazard associated with willful defaulters, and to keep the financial impact of borrower relief measures within manageable proportions, but it can inadvertently cause significant delays in the speed of delivery. A highly practical approach is thus called for. The identification of COVID-19-affected borrowers could for instance be delegated to banks, while regulators may require that banks offer relief measures only to borrowers with a sufficiently strong payment track record.
The event was well-attended, with more than ninety external participants from 18 countries, including 15 FinSAC countries. The active participation by the participants confirmed the relevance of the topic of the webinar, and signaled a high receptiveness to the policy recommendations elaborated in the policy note.