The European Banking Authority (EBA) has published a consultation paper on its draft guidelines on the estimation of risk parameters for non-defaulted exposures, namely the probability of default (PD) estimation, the loss given default (LGD) estimation and the treatment of defaulted exposures. The draft guidelines are one of the initiatives undertaken by the EBA to reduce unjustified variability and are part of the broader review of the internal ratings based approach (IRB).

The guidelines are focussed on the definitions and modelling techniques used in the estimation of risk parameters for both non-defaulted and defaulted exposures, whereas other regulatory products developed in the review process will clarify other aspects related to the application of the IRB approach. With regard to non-defaulted exposures, the draft guidelines provide detailed clarifications on the estimation of PD and LGD parameters. In the case of defaulted exposures, institutions are required to estimate LGD and expected loss best estimate. The EBA considers these clarifications and harmonisation necessary in order to achieve comparability of risk parameters estimated on the basis of internal models and to restore the trust in these models by market participants while preserving risk sensitivity of capital requirements at the same time.

In terms of next steps, the EBA is planning to carry out a qualitative survey across institutions in order to assess the impact of the proposed requirements on the rating systems. In addition, the EBA is planning to consult on draft regulatory technical standards (RTS) on the nature, severity and duration of economic downturn developed in accordance with Article 181(3)(a) of Capital Requirements Regulation. As these RTS will be closely related to the estimation of downturn LGD, some additional changes may be introduced in the final guidelines on the basis of the feedback received during the consultations. The deadline for comments on the consultation is 10 February 2016.

View EBA consults on draft guidelines on application of IRB approach under CRR, 14 November 2016