The Treatment of Nonperforming Loans in Macroeconomic Statistics

Outline Look at the differences in approach to loan valuation taken by the SNA and the Banking and Accounting institutions. Definition of Nonperforming loans (NPLs) Valuation of NPLs Treatment of write-offs Treatment of interest The Electronic Discussion Group (EDG)

SNA Approach SNA approach to loan valuation is based on the need: For a sound basis for measurement To facilitate comparisons For valuation consistent with debtors obligations For recommendations to be useful in measures of solvency Leads to many cases where NPLs are not reflected in either interest flows or the balance sheets

SNA Approach Other relevant manuals tend to follow the SNA ESA, BPM5, GFSM, MFSM (most elaborate) = International Statistics Manuals

Banking and Accounting Institutions In many countries the authorities have introduced regulations relevant to the country situation. Prompted banking and accounting institutions to develop criteria and recommendations for international reporting.

Definition of nonperforming loans International statistics manuals provide no criteria Loans are good until cancelled, written off or written down MFSM allows provisions under Other a/cs payable and memoranda items. Banking & Accounting Institutions IAS says a financial asset is impaired if its carrying amount is greater than its estimated recoverable amount

Definition of nonperforming loans Country practice varies. To help improve cross country comparisons, the IIF proposes the following categories for reporting: i. Standard ii. Watch iii. Substandard iv. Doubtful v. Loss

Value of Loans International Statistics Manuals: Cash, loans, deposits, advances remain constant, unless in foreign currency or de facto negotiable Loans are only revalued when they fail or are renegotiated Regularly traded securities valued at market price So marketability is the crucial factor There is a need for consistency between instruments as assets and liabilities (MFSM recommends memos on interest arrears and expected loan losses)

Value of Loans B & A Institutions: Loans and debt held to maturity valued at amortized acquisition cost, less reductions for impairment Others at fair value No need for consistency between debtor and creditor valuations

Cancellations, Write offs & Impairment International statistics manuals Cancellation by mutual agreement = capital transfer Writing off – other changes in volume account Rescheduling. New nominal amount (holding gain/loss) Write downs - revaluation account B & A Institutions Charge against current income, make a provision (liability) Charge against current income, but reduce value of assets Do not charge current income, but against capital

Treatment of Interest on NPLs International statistics manuals Interest accrues by default as SNA doesnt recognize impairment MFSM explicitly states that overdue interest should be recorded. B & A Institutions After write down, interest based on original rate Cease to accrue when impairment identified (sound banking practice) (Note that these practices are still evolving, so best practice has still to be decided on)

Summary There are important differences between SNA and commercial book keeping SNA: An instrument has the same value as an asset and a liability Price changes in traded instruments – holding gain/loss Otherwise no price changes by definition. Write offs are in the Other Changes in Volume account No entries in income accounts regarding partial losses which reduces usefulness

Issues for discussion Background paper : Recommends: Provide memoranda on the provisions that should be made to both face value of loans and accrued interest. Use commercial practices as guidelines. Raises issues: What should be the definition of a NPL?

Issues for discussion What is the best option? - continue the present SNA conventions - change the rules to reflect NPL provisions - continue the current approach but show provisions (memo) Should the manuals contain more criteria on write- offs? Should the manuals be changed to allow price fluctuations in loans expressed in national currency? If so, how?

Issues for discussion Would it be more consistent to treat loan write-offs as price changes rather than other changes in volume? Should national accounts cease to record interest accrual on impaired loans? Should the manuals define an income concept including expected or actual losses on financial claims? If, so should there be a difference between normal and catastrophic losses?

EDG Started July Difficult to get people to respond National accountants seem to think its not their problem Still looking for more contributions to a obtain balanced set of opinions The IMF has set up a working group to consider loan valuation and this report will be a contribution to the EDG

EDG 21 responses so far but less than half address SNA issues Of those that do, all advocate some sort of changes to SNA About half suggest the presentation of both nominal and market values A similar number suggest adjusting income for expected losses

EDG – the way forward. A wide range of individuals and organizations have already been approached – hopefully some of these will still provide contributions An additional range of statistics offices will be canvassed for their views on the issue