Month End Glossary

Expected Credit Loss (ECL)

Expected Credit Loss (ECL) refers to the anticipated amount a lender might lose due to borrower defaults, calculated using a forward-looking model.

Expected Credit Loss (ECL) represents an estimation of potential losses that a lender or financial institution expects to incur due to borrowers not meeting their debt obligations. ECL uses a forward-looking model, taking into account historical data, current conditions, and reasonable forecasts of future economic conditions to calculate expected losses. This concept aligns with financial reporting standards to provide a more accurate and proactive approach to recognizing credit losses. For example, under IFRS 9, institutions are required to use ECL to calculate potential provisions needed for their financial assets.

The calculation of ECL is important for maintaining financial stability and ensuring that organizations are adequately prepared for possible economic downturns. For instance, if a bank issues a loan, it must estimate potential losses based on the borrower's credit risk and make provisions accordingly. This practice ensures a more transparent and realistic representation of financial health and performance in financial reports. ECL is widely applied across banking and financial industries, mainly in relation to loans, trade receivables, and investments.

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