The Bangko Sentral ng Pilipinas (BSP) said its “extreme scenario” for the banking system is a 10% rise in loan-loss provisions in the wake of the pandemic, which it expects major banks to survive.

In a working paper, “COVID-19 Exit Strategies: How Do We Proceed,” the BSP said simulations show that larger banks can weather the “extreme scenario” of a 10% rise in loan loss provisions alongside write-offs of interest income and income from fees and commissions over four months.

It said it expects the banking system to be “destabilized” if loan loss provisions rise 20%, bringing many insttutions below the regulatory minimums for Capital Adequacy Ratio (CAR).

“Since total loans of the banking system account for 59% of its total resources as of end-December 2019, additional loan loss provisions on total loans would significantly pull post-shock CARs to below the minimum requirement,” it said.

The banking industry has an overall CAR of 15.4% and 16.4% on stand-alone and consolidated bases, respectively, according to BSP data. The minimum regulatory requirement is 10%.

The BSP said that liquidity support and regulatory relief measures will still be put in place but subject to review as the country moves into more permissive forms of quarantine.

Since February, the BSP has rolled out regulatory relief for financial institutions to help them deal with the impact of the African Swine Fever outbreak and the coronavirus disease 2019 (COVID-19) pandemic. These measures included authorization to stagger the booking of allowances for credit losses, a waiver of penalties for legal reserve deficiencies, and clearance to defer the classification of some accounts in default as past due.

The BSP has since tweaked reserve rules to allow banks to comply by counting as reserves their lending to small businesses, and eased the credit requirements for micro, small, and medium enterprises (MSMEs).

“The withdrawal of measures to ease financing constraints would be contingent on the ability of the financial institutions to sufficiently supply credit to the credit-worthy corporate sector,” it said.

The central bank said strains on the financial system will become more apparent now that economic activities have resumed.

“Postponement or cancellation of investment and expansion decisions, reduction in workforce and work hours, and changes in the capacity to pay off creditors may have adverse balance sheet and employment effects,” it said.

“Given interlinkages across sectors, these may have significant financial stability implications,” it added. — Luz Wendy T. Noble