2020 Universal registration document and annual financial report - BNP PARIBAS 197

4Consolidated finanCial statements for the year ended 31 deCemBer 2020

4

Notes to the financial statements

unprecedented levels. Although current extremely accommodating monetary policies are limiting this risk now, a sharp deterioration in public finance metrics could lead to future tensions on the financial markets and austerity measures in certain countries. Such developments could lead to a knock-on negative effect on activity.

■ Further difficulties in China: given the weight of the Chinese economy, any further deterioration in activity would impact global financial markets, global trade and commodities prices.

■ Emerging markets in difficulty: some emerging markets suffering from economic imbalances and domestic political difficulties, a strong US dollar and deteriorating international relations, could be further adversely impacted by the health crisis.

Other risks, not directly linked to the health crisis, were also embedded in the adverse scenario:

■ Trade risks: in the short term, risks generated by the trade confrontation between the United States and China look less acute. However, disagreements regarding intellectual property protection, technology transfers or industrial policies are likely to persist. The United States and other mature economies are also likely to try to become less reliant on China in some areas that are deemed strategic, following the health crisis. Tensions related to trade and globalisation are therefore likely to remain. Unfavourable developments remain a risk for the coming quarters.

■ Brexit-related risks: late in December 2020, the European Union and the United Kingdom signed a free trade agreement. This deal, which still has to be ratified by the European parliament, is provisionally applied from 1 January to 28 February 2021. Although a hard- Brexit was avoided, significant changes impact the European Union and United Kingdom trade (major non-tariff barriers) and financial relationships. Logistical and operational hurdles which are not totally integrated today cannot be excluded. A higher level of uncertainty (which is detrimental to investment and spending), weaker trade dynamics, financial tensions, and negative developments on the real estate market are factored in the adverse scenario.

■ Geopolitical risks: Middle East tensions have the potential to weigh on the global economy through shocks on commodities prices and business confidence.

It is assumed that these latent risks will materialise as from the second quarter of 2021, triggered by an extension of the health crisis.

Among OECD countries, GDP levels in the adverse scenario are between 5.8% and 12% lower than in the baseline scenario at the end of the shock period (three years), depending on the country with a deviation of -7.1% on average in the eurozone and -5.8% in the United States.

Scenario weighting and cost of risk sensitivity At 31 December 2020, the weighting of the Group s adverse scenario is 16% (34% for the favourable scenario), versus 26% at 31 December 2019 (24% for the favourable scenario), reflecting a below average position in the credit cycle at 31 December 2020, in the context of the current health crisis and the associated lockdown measures.

The application of an equal weighting to the favourable and adverse scenarios (25%) provides an estimate of the sensitivity of the amount of expected credit losses for all financial assets at amortised cost or at fair value through equity and credit commitments. This would lead to an increase of around EUR 130 million, or 2% of the expected losses. The application of these weightings does not change the classification of these facilities in the various stages at the closing date.

Adaptation of the ECL assessment process to factor in the specific nature of the health crisis

The measurement of the impact of macroeconomic scenarios on expected credit losses has been adjusted to reflect the specificities of the current health crisis. Given the exceptional nature of the shock in the first semester of 2020 linked to the temporary lockdown measures and strong support provided by governments and central banks, macroeconomic parameters for each country or geographic area included in the pre- existing models (calibrated on past crises) have been adapted in order to extract the information on the medium-term impacts on macroeconomic environment and thus minimize excessive short-term volatility.

In the eurozone, the medium-term perspective adopted for the baseline scenario reduces the destruction of value over the period, for an amount much lower than that of the support programmes announced by governments and the European Central Bank.

Conservative adjustments were also taken into account when the models used were based on indicators that show unusual levels in the context of the health crisis and the support programmes, such as the increase in deposits and the decrease in past due events for retail customers and entrepreneurs.

For the new loans secured by a state guarantee (mostly in French Retail Banking), the computation of expected credit losses has been adjusted accordingly.

For the specific business of consumer finance, projections of migration to default have been adapted in order to reflect, by country, the specific characteristics of this client segment. Loans benefiting from moratorium measures were analysed in specific risk classes.

Besides, the absence of a general maturity extension scheme for individuals, notably in France, led to classify as forborne the loans that benefited from accompanying measures that were not initially provided for under the contract. However, these measures were not considered as an automatic criterion for transfer to stage 2.