Dynamic Provisioning – One Solution for Banking Crisis?

Regulators and Standard Setters have been working overtime to establish procedures and regulations to prevent a future meltdown based on recent lessons learned. One proposed solution from Spain? Dynamic Provisioning. Simplistically, the concept allows banks to build up capital buffers during prosperous times and then release during bad times. The concept originated in Spain in the year 2000. It is considered countercyclical, rather than procyclical, and requires a bank to set aside a provision for each new loan in case it goes bad. By countercyclical it means that Dynamic Provisioning smoothes the economic peaks and troughs. Thanks to Spain’s regulations, the country’s banks have been better able to weather the financial storm.

At a recent meeting in April of accounting standard setters in Johannesburg, the topic was discussed and the general consensus was that if Dynamic Provisioning was universally adopted, it shouldn’t flow through the profit and loss statement. Rather it should be part of a non-distributable capital reserve. It was agreed that more testing was needed.