Loan loss provision

Context: Recently, The Reserve Bank of India (RBI) published a discussion paper on “loan loss provision”, proposing a framework for adopting an expected loss (EL)-based approach for provisioning by banks in case of loan defaults.

About Loan loss provision:

• The RBI defines a loan loss provision as an expense that banks set aside for defaulted loans.
• Banks set aside a portion of the expected loan repayments from all loans in their portfolio to cover the losses either completely or partially.
• In the event of a loss, instead of taking a loss in its cash flows, the bank can use its loan loss reserves to cover the loss.
• An increase in the balance of reserves is called loan loss provision.
• The level of loan loss provision is determined based on the level expected to protect the safety and soundness of the bank.
• It will enhance the resilience of the banking system in line with globally accepted norms.
• It is likely to result in excess provisions as compared to a shortfall in provisions as seen in the incurred loss approach.

Source: Indian Express

Previous Year Questions

Q.1) With reference to the Indian economy, consider the following statements:

1. If the inflation is too high, Reserve Bank of India (RBI) is likely to buy government securities.
2. If the rupee is rapidly depreciating, RBI is likely to sell dollars in the market.
3. If interest rates in the USA or European Union were to fall, that is likely to induce RBI to buy dollars.

Which of the statements given above are correct? (2022)

1. 1 and 2 only
2. 2 and 3 only
3. 1 and 3 only
4. 1, 2 and 3