Additional measures to alleviate the impact of Covid-19

Banking Policy Department
Our Ref: B1/15C
B9/79C
B9/129C
CB/POL/4/5
25 May 2020
The Chief Executive
All Authorized Institutions
Dear Sir/Madam,
Additional measures to alleviate the impact of Covid-19 Further to the deferral of the Basel III implementation announced by the Group of Central Bank Governors and Heads of Supervision (GHOS) on 27 March 2020, the Basel Committee on Banking Supervision (BCBS) issued additional guidance to alleviate the impact of Covid-19 on the global banking system on 3 April 2020. 1 We set out below the application of this guidance in the context of Hong Kong.

1. Clarifications on the treatment of extraordinary support measures related
   to Covid-19
   Governments and public authorities in many jurisdictions have introduced extraordinary support measures to alleviate the financial and economic impact of Covid-19. These measures include, among others, guarantee programmes for bank loans and payment holidays offered by banks to borrowers. To ensure that AIs reflect the risk-reducing effect of these measures when calculating their regulatory capital requirements, several technical clarifications are enclosed in the Annex to this circular.
2. Expected credit loss provisioning
   The HKMA expects AIs to continue to apply the relevant expected credit loss (ECL) frameworks for accounting purposes. It is noted by the BCBS that the ECL accounting frameworks are not designed to be applied 1 https://www.bis.org/press/p200403.htm

-2- mechanistically. There are high levels of uncertainty currently surrounding the forward-looking information relevant to estimating ECL and to applying the HKFRS/IFRS 9 assessment of significant increases in credit risk (SICR). At present, information available that is both reasonable and supportable on which to assess SICR and to measure ECL is limited. The HKMA expects ECL estimates to reflect the mitigating effect of the significant economic support and payment relief measures put in place by public authorities and the banking sector. The provision of relief measures to borrowers should not automatically result in exposures moving from a 12-month ECL to a lifetime ECL measurement. Additionally, AIs are expected to exercise informed judgement and to use the flexibility inherent in HKFRS/IFRS 9, for example, to give due consideration to long-term economic trends in estimating ECL. The BCBS transitional arrangements for the regulatory capital treatment of ECL accounting are not adopted in Hong Kong. Instead, the HKMA has lowered the regulatory reserve requirement by half to provide AIs with more room on their balance sheets to cater for future financing needs.2 For details on the reduction of the regulatory reserve requirement, please refer to another circular issued by the HKMA on 8 April 2020.3
3) Margin requirements for non-centrally cleared OTC derivatives
Following the announcement made by the BCBS and the International Organization of Securities Commissions (IOSCO) on 3 April 2020, the HKMA will defer the final two implementation phases of margin requirements for non-centrally cleared OTC derivatives by an additional year. With this extension, the final implementation phase will start on 1 September 2022, at which point covered entities with an average aggregate notional amount (AANA) of non-centrally cleared OTC derivatives greater than HKD 60 billion will be subject to the requirements. As an intermediate step, from 1 September 2021, covered entities with an AANA of non-centrally cleared OTC derivatives greater than HKD 375 billion will be subject to the requirements. 2 https://www.hkma.gov.hk/eng/news-and-media/press-releases/2020/04/20200403-4/ 3 https://www.hkma.gov.hk/media/eng/doc/key-information/guidelines-and￾circular/2020/20200408e1.pdf

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The HKMA will continue to monitor the banking and supervisory implications of Covid-19, and coordinate with the BCBS and other relevant standard-setting bodies on responses to the pandemic. If you have any queries about this letter, please approach your usual supervisory contact. Yours faithfully, Daryl Ho Executive Director (Banking Policy) Encl cc: The Chairperson, The Hong Kong Association of Banks The Chairperson, The DTC Association FSTB (Attn: Ms Eureka Cheung)

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Annex - Clarifications on the treatment of extraordinary support measures related to Covid-19

Annex
Clarifications on the treatment of extraordinary support measures related to Covid-19

1. What is the risk-based capital treatment of loans that are subject to government
   guarantees that have been made in response to the Covid-19 outbreak? Answer: When determining an AI’s credit risk capital requirements for loans that are subject to sovereign guarantees, the relevant sovereign risk weight should be used, as set out in Parts 4, 5 and 6 of the Banking (Capital) Rules (BCR). The HKMA has provided guidance to the industry to this effect for relevant loan products subject to guarantee commitment of the Government.
2. What is the capital treatment of loans subject to payment holidays initiated in
   response to the Covid-19 outbreak?
   Answer: Following the principles set out in the BCBS technical clarifications 1 , an AI may reflect the payment holiday granted for a loan (as a relief measure initiated by the AI in response to the Covid-19 outbreak) in determining the capital treatment of the credit exposure of the loan in the following manner:
   Under the standardized (credit risk) approach, for any loan that is not already a “past due exposure” as defined under Part 4 of the BCR when the payment holiday is granted, an AI, in determining whether a loan should be regarded as falling within the definition of “past due exposure”:
    may, in respect of calculating the overdue period, exclude the payment holiday period from the counting of days past due; and  should not automatically regard the granting of the payment holiday as necessarily leading to the loan being categorised as rescheduled. Likewise for the internal ratings-based approach:-  in assessing whether an obligor is unlikely to pay in full under section 149(1)(a) of the BCR, an AI should not automatically regard the granting of the payment holiday for a loan as necessarily constituting a “restructuring” of the loan, leading to the obligor being considered unlikely to pay in full its credit obligations. The AI’s assessment of whether an obligor is unlikely to pay should be based on whether the

1 https://www.bis.org/bcbs/publ/d498.pdf

obligor is unlikely to be able to repay in full its credit obligations after the payment holiday period ends; and  in determining whether an obligor is past due for more than 90 days for the purposes of section 149(1)(b) and (2) of the BCR, an AI may exclude the payment holiday period from the counting of days past due for an exposure.
3. How should the HKMA’s guidance on the reporting of rescheduled assets,
overdue assets, and classified assets be applied in relation to loans subject to payment holidays initiated in response to the Covid-19 outbreak? Answer: An AI should refer to the FAQs issued by the HKMA to all AIs on 28 October 2019 and 10 March 2020 titled “Rescheduled loans” and “Treatments of relief measures for SMEs and retail clients”, respectively. In sum:-  payment holidays initiated in response to the Covid-19 outbreak will not by themselves render a loan to be categorised as “rescheduled” so long as the terms of the payment holidays are “commercial”;

 if a loan is current or overdue for less than 1 month (less than 3 months for consumer loans repayable by regular monthly instalments) at the time the payment holiday is offered, it should not be reported as overdue until the loan is overdue under the rearranged payment schedule; and  the classification of a loan subject to payment holiday should reference the above guidelines on rescheduled and overdue assets as well as other loan characteristics stated in the HKMA’s Guideline on Loan Classification System. The HKMA’s reporting requirement stipulates that assets need to be reported as overdue once they have been overdue for more than 1 month. 2 The capital treatment established in the BCR and clarified in question 2 of this Annex on the other hand makes reference to “past due exposures”—assets that are more than 90 days past due—in line with the BCBS guidelines. The period of overdue relevant for regulatory reporting being shorter than that defines “past due exposures” in the capital treatment arises from the need for regulatory reporting to reflect in a timely manner emerging trends in asset quality. The abovementioned FAQs provide guidelines on the treatment of payment holidays having regard to this existing difference.

2 See paragraph 12.2 of the Completion Instructions of MA(BS)2A.