Impact of Risk : An Alternative Credit Risk Measure Based on Expected Credit Losses for Business Steering and Model Backtesting

A practically oriented, top-down approach to assessing the quality of EL by backtesting with a properly defined risk measure is introduced. In a first step, the concept of risk expenses ("Cost of Risk") has to be extended beyond the classical provisioning view, toward a more adequate capital consumption approach ("Impact of Risk"). On this basis, the difference between parameter-based EL and actually reported Impact of Risk is decomposed into its key components. The proposed method will deepen the understanding of the practical properties of EL, reconcile the EL with a clearly defined and observable risk measure and provide a link between upcoming IFRS 9 accounting standards for loan loss provisioning and the regulatory capital requirements under the internal ratings-based approach (IRBA)