The New Impairment Model: Governance and Validation

Damien Burke

Internal models, whether developed to help acquire new customers or manage existing ones (operational models), calculate losses on the lending book (impairment models) or to calculate regulatory capital to allow for unexpected losses (IRB models), are designed to have a level of complexity commensurate with the sophistication of the organisation they have been developed for and to be in line with accounting (impairment) or regulatory (IRB) standards pertaining to these. So, while the challenge is similar, the aim of these rules is quite different, so different approaches may be considered and impairment needs to be calculated under the same rule set for all financial institutions, whereas the capital rule set is dependent on the use of models, so validation may be new to some organisations.

They are a tool to enable organisations to make better decisions and to meet their responsibilities to relevant bodies in a more efficient and effective manner, not to absolve those organisations from those responsibilities. This means that the role of the validation function and the governance structure that surrounds it is not to pass or fail models, but to understand their structure, the

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