Why it is beneficial to standardize credit risk processes

Although regulations are designed to simplify compliance processes and minimize credit risk, the pace of change in the world of financial services is so rapid that it can be difficult to stay on top of these changes.

IFRS 9 is an example. Since its inception four years ago, we have suffered from a global pandemic, increased use of buy-immediate, pay-later (BNPL), and the rise of cryptocurrencies. We now expect greater economic uncertainty as the cost of living crisis hits household disposable income and increases credit risk again.

So while IFRS 9 may have been an improvement over its predecessor (IAS 39), complying with the new standard can still be a challenge for lenders.

For one, data is often constrained or siled across different systems, making it difficult to accurately forecast expected credit losses (ECLs) at the required speed, taking into account continuous changes in the economic environment. To avoid dramatically increasing workloads, the only option is to hire more staff and incur higher costs.

Additionally, balance sheet reporting discrepancies mean that the correct level of risk and impairment is not identified, which could lead to poor decisions and poor financial performance, or even a stock market crash. Another problem is that manually calculated projections are susceptible to human error.

The purpose of IFRS is, as the ICAEW puts it, “to improve the quality of timely updated credit risk information”. In today’s world, this can only be achieved by using digital tools to standardize reporting, such as Aryza Evaluate. Indeed, they allow you to leverage data from multiple sources, including transactional data from accounting and lending solutions, and run weighted scenarios with multiple calculations to get a very accurate view of losses and losses. future financial performance. Specifically, these tools can drive improvements in three key areas:

  • Depreciation: Accurately calculate expected depreciation to get a clearer picture of losses.

  • Risk Parameters: Use new and existing models to determine changing risk parameters such as probability of default, expected loss given default, and credit conversion factor.

  • Resilience: In a rapidly changing world, having the capabilities to continuously test resilience is essential. This can include everything from EBA and climate stress tests to the risks individuals pose. The results of these stress tests give lenders the opportunity to put safeguards in place to deal with possible shocks, such as limiting the granting of credit to certain customers and their constitution of financial reserves.

With the pace of innovation showing no signs of slowing down, it is critical that businesses operating in the financial services industry can keep pace with regulatory change to protect themselves and their customers.

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