IFRS 9: expect scrutiny to continue

Strengthening banks’ resilience to geopolitical risks and macro-financial uncertainties is one of the ECB’s two leading supervisory priorities for 2026-28, with prudent risk-taking and sound credit standards identified as a core goal.

Earlier this year, we highlighted the ECB’s concerns over inconsistencies in banks’ application of IFRS 9. For example, the ECB has argued that banks’ use of overlays is insufficiently risk-sensitive and has found deficiencies in their capture of forward-looking risks, and varying approaches to staging and provisioning under the expected credit loss (ECL) framework.

Since then, rapid evolutions in the global risk landscape – including rising geopolitical tensions, exceptional climate risks, and the AI boom – have driven a renewed supervisory focus on IFRS 9 and provisioning practices.

Conversations with a wide range of banking clients across the SSM suggest that some of the most notable variations in banks’ interpretation and implementation of IFRS 9 include:

Around half of banks have not yet fully integrated Climate and Environmental (C&E) risks into their ECL models for different reasons. Progress on physical C&E risks is more advanced than for transition risks, and there is a significant range of approaches including the use of climate scenarios in modelling, in-model adjustments, and data-driven overlays.

Geopolitical risks account for a large share of post-model adjustments, often impacting staging decisions and estimates of ECL. Approaches to governance for overlays vary across banks, and there is room for improvement in some cases when it comes to transparency or justifiability.

Only around half of banks use the ECB’s preferred measure of a three-fold increase in the probability of default (PD) as a backstop for moving assets from Stage 1 (performing) to Stage 2 (underperforming). A significant increase in credit risk (SICR), typically comparing PD at reference date with PD at origination, is the main driver of Stage 2 transition.

Around half of banks plan to recalibrate their IFRS 9 frameworks within the next two years in response to emerging risks, the changing macro picture, or simplification initiatives.

Given the leeway that Advanced IRB banks have to model key drivers of their credit risk capital requirements - including probability of default (PD), loss given default (LGD) and exposure at default (EAD) – some variation in provisioning practices is unavoidable.

However, it is inevitable for the ECB to be concerned when wide variations in IFRS 9 implementation lead to unjustifiable uneven impacts on banks’ balance sheets. In our view, banks should therefore:

Expect the ECB to keep asking questions about IFRS 9 sound implementation and bank specific practice.
Monitor ECB commentary and publications on best practice, as they evolve.
Prepare, where practice is not closely aligned with ECB expectations, for additional scrutiny by joint supervisory teams.

There is an inherent tension between IFRS 9’s accounting goal of producing true and fair financial statements, and the ECB’s prudential goal of strengthening institutional and systemic stability. Banks would be well advised to actively monitor and respond to evolving supervisory thinking in this crucial area.