The COVID-19 pandemic has caused widespread financial difficulties for businesses and individuals, with attendant implications for financial stability. Banks are faced with rising credit risks, leading to concerns about potential financial distress that could ripple through the financial system as a result of growing interconnectedness. This Analytical Note stress tests the incremental expected losses to the regional and global financial systems from the rising credit and contagion risks to ASEAN+3 banks as a result of the pandemic. Fiscal authorities could draw on these estimates to gauge the contingent claims of the banking system, especially the institutions that may be too big or too connected to fail. Importantly, authorities in several jurisdictions are affording regulatory forbearance to alleviate the pressures faced by banks and the broader financial system as a whole, and encouraging banks to extend leniency to borrowers. While a much-needed measure for the time-being, authorities need to devise and implement credible and transparent exit strategies to restore confidence in their banking sectors and ensure the normalization of bank lending to the economy.

Author: Wei Sun