Basel Committee On Banking Supervision: Liquidity Risk:Management Andsupervisory Challenges (

Basel Committee
on Banking Supervision
Liquidity Risk:Management andSupervisory Challenges(February 2008)
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Liquidity Risk: Management and Supervisory Challenges

Table of Contents
Liquidity Risk: Management and Supervisory
Challenges........................................................1
I. Introduction.....................................................................................................................1
II. Liquidity risk management
challenges ............................................................................2
A. The challenge of liquidity risk management ...........................................................2
B. Funding from capital markets.................................................................................2
C. Securitisation..........................................................................................................3
D. Complex financial instruments ...............................................................................3
E. Collateral usage .....................................................................................................4
F. Payments systems and intraday liquidity needs ....................................................4
G. Cross border flows .................................................................................................5
III. National liquidity
regimes ................................................................................................5
A. Key features ...........................................................................................................5
B. Diversity in liquidity regimes...................................................................................9
C. Implications of diverse regimes for supervisors and cross-border firms ..............10
IV. Initial lessons from the current episode of
stress ..........................................................11
V. Future work to strengthen liquidity risk management and
supervision..........................13
List of members of the Working Group on
Liquidity................................................................15
Liquidity Risk: Management and Supervisory Challenges 1
Liquidity Risk: Management and Supervisory Challenges

I. Introduction
In December 2006, the Basel Committee on Banking Supervision (BCBS) established
the
Working Group on Liquidity (WGL) to review liquidity supervision practices in member
countries.1 The WGL’s mandate was to take stock of liquidity supervision across member
countries. This included an evaluation of the type of approaches and tools used by
supervisors to evaluate liquidity risk and banks’ management of liquidity risks arising
from
financial market developments.
The market turmoil that began in mid-2007 has highlighted the crucial importance of
market
liquidity to the banking sector. The contraction of liquidity in certain structured product
and
interbank markets, as well as an increased probability of off-balance sheet commitments
coming onto banks’ balance sheets, led to severe funding liquidity strains for some
banks
and central bank intervention in some cases. These events emphasised the links
between
funding and market liquidity risk, the interrelationship of funding liquidity risk and credit
risk,
and the fact that liquidity is a key determinant of the soundness of the banking sector. In
response to the market events, the original mandate was expanded and the WGL made
initial observations on the strengths and weaknesses of liquidity risk management in
times of
difficulty. These observations, together with those provided by the review of national
liquidity
regimes, formed the basis of the WGL’s report, which was submitted to the BCBS in
December 2007.
The WGL also reviewed the 2000 BCBS publication Sound practices for managing
liquidity
risk in banking organisations. While the guidance remains relevant, the WGL identified
areas
that warrant updating and strengthening. As such, the BCBS has requested the WGL to
update Sound Practices for issuance by the BCBS later this year. In addition, the WGL
will
continue its work on evaluating the reasons for and implications of the diversity in
national
liquidity supervision regimes.
In view of the relevance and timeliness of the work of the WGL, the BCBS is publishing
this
summary of the key findings of the WGL’s report. This document highlights financial
market
developments which affect liquidity risk management, discusses national supervisory
regimes and their components, and then outlines initial observations from the current
period
of stress and future work of the WGL.
1 The Basel Committee on Banking Supervision is a committee of banking supervisory authorities which was
established by the central bank Governors of the G10 countries in 1975. It is made up of senior
representatives of banking supervisory authorities and central banks from Belgium, Canada, France,
Germany, Italy, Japan, Luxembourg, the Netherlands, Spain, Sweden, Switzerland, the United Kingdom and
the United States. In addition to participants from these countries, the Working Group on Liquidity also
includes members from Australia, China, Hong Kong and Singapore.
2 Liquidity Risk: Management and Supervisory Challenges
II. Liquidity risk management challenges
A. The challenge of liquidity risk management
Liquidity is the ability to fund increases in assets and meet obligations as they come
due.2
Within this definition is an assumption that obligations will be able to be met “at
reasonable
cost”. Liquidity risk management seeks to ensure a bank’s ability to continue to do this.
This
involves meeting uncertain cash flow obligations, which depend on external events and
on
other agents’ behaviour. The fundamental role of banks in facilitating the maturity
transformation of short-term deposits into long-term loans makes banks inherently
vulnerable
to liquidity risk, the risk that demands for repayment outstrip the capacity to raise new
liabilities or liquefy assets.
Effective risk management estimates future cash flow requirements under both normal
and
stressed conditions. This presents a challenge even under relatively benign market
conditions, as it requires the ability to draw information from various operations of the
bank
and assess the impact of external events on the availability of funding liquidity. This
challenge increases, however, during stressed conditions, as the assumptions
underlying
liquidity risk may change – notably through changes in counterparty behaviour and
market
conditions that affect the liquidity of financial instruments and the availability of funding.
These factors give rise to a different and significant set of challenges for firms in
assessing
their liquidity risk and for supervisors in the evaluation of risk management and controls.
Financial innovation and global market developments have transformed the nature of
liquidity
risk in recent years. The funding of some banks has shifted towards a greater reliance
on the
capital markets, which are potentially a more volatile source of funding than traditional
retail
deposits. In addition, the growth and product range of the securitisation market has
broadened as the originate-to-distribute business model has become more widespread.
These factors have increased the potential for rapid shifts in demands on the funding
capacity of the institutions, as well as the build up of loan inventory in banks’
warehouses
prior to securitisation. Also, the complexity of financial instruments has increased. This
has
led to a heightened demand for collateral and to additional uncertainty on prospective
liquidity pressures from margin calls, as well as to a lack of transparency that may (and
recently did) contribute to asset markets contracting in times of stress. Parallel to these
market developments, the increasingly real-time nature of payment and settlement
systems
and the increasing interdependence among different systems has increased the
importance
of intraday liquidity management. Increased cross-border business, in combination with
these structural changes, means that events in one market can quickly impact another.
These factors are discussed below in greater detail.
B. Funding from capital markets
Over the past decade, many banks have turned to the capital markets for an increasing
portion of their funding and have thus become more reliant on wholesale funding
sources
such as commercial paper, repurchase agreements, and other commercial money
market
instruments.
2 From Sound Practices for Managing Liquidity in Banking Organisations, BCBS, February 2000.
http://www.bis.org/publ/bcbs69.htm
In general, money market instruments tend to be more volatile than traditional retail
deposits3
and may pose additional challenges to liquidity risk management. As recent events
illustrate,
during times of market stress investors exhibit heightened risk aversion by demanding
higher
compensation for risk, requiring banks to roll over liabilities at considerably shorter
maturities,
or refusing to extend financing at all. In these cases, the short-term nature of many
money
market instruments poses a problem as refinancing sources must be found quickly to
replace
the loss of funding.
C. Securitisation
Although securitisation began more than 30 years ago to pool and sell illiquid assets, it
has
grown rapidly in the past 10 years. Securitisation can be used by banks to expand
sources of
funding and free up additional balance sheet capacity. It can also be used to create
revenue
through buying and distributing third party assets which have not been originated by the
bank. Securitisation presents liquidity risks that need to be managed carefully. For
example,
the process of pooling assets, selling to a special purpose vehicle, obtaining credit
ratings
and issuing securities is time consuming, and market difficulties during this timeframe
could
result in a bank having to warehouse assets for longer than planned.
Even as financial market innovation allows firms to obtain liquidity from previously illiquid
assets, it also makes them more reliant on the functioning and stability of financial
markets.
As recent events illustrated, some firms had relied on securitisation as a source of
business
revenues and as a way to reduce assets on the balance sheet under normal market
conditions, but during times of stress were forced to postpone some securitisations,
leading
to a build up of warehoused assets that had to be financed.
Some forms of securitisation (ie asset backed commercial paper) give rise to contingent
liquidity risk, ie the likelihood that a firm will be called upon to provide liquidity
unexpectedly,
potentially at a time when it is already under stress. For example, some firms provide
liquidity
backstop arrangements in which they commit to provide funding if certain agreed-upon
conditions occur, ensuring timely payment of principal and interest to holders of the
commercial paper and thus contingent funding of the assets. Another example of
contingent
liquidity risk arises from early amortisation provisions incorporated into securitisations of
revolving credits (eg credit card receivables). Lastly, additional liquidity needs can be
created
when institutions provide support to conduits and off-balance sheet vehicles they have
sponsored even if not contractually obligated to do so, as they judge that the failure to
provide such support would have a material adverse impact on their reputation.
D. Complex financial instruments
The use of complex instruments has grown substantially over the past decade.4 For
example, the notional growth of credit default swaps (CDS) more than doubled in both
2005
and 2006, with a significant portion of this growth associated with the creation of
complex
structured credit instruments, some with high embedded leverage.5 As another example,
3 Moreover, retail deposits may not be as stable as in the past, due to the ease with which depositors can
compare rate information and make transfers via the internet.
4 See Analytical Discussion 2 of the Institute of International Finance’s March 2007 publication, Principles of
Liquidity Risk Management, for a more extensive discussion of this topic.
5 ISDA Margin Survey 2006, International Swaps and Derivatives Association.
conduit financing (which is not new), became more complex with the growth of certain
segments that engaged in more aggressive maturity transformation.
The increasing complexity of financial instruments creates new challenges for banks’
management of liquidity risk. First, the inclusion of credit rating downgrade clauses and
call
features (or other forms of embedded optionality) complicates the assessment of an
instrument’s liquidity profile. Second, complex, highly bespoke instruments are not
actively
traded, which can make assessing the price and secondary market liquidity of such
instruments highly challenging. Third, in view of the short track record of these products,
predicting their cash flows and correlations with other financial assets in times of stress
is
difficult at best.
E. Collateral usage
Over the past ten years, banks have increased their usage of high quality collateral.
According to the 2006 ISDA margin survey, there were an estimated 110,000 collateral
agreements in 2006, compared to only 12,000 in 2000. This is partly due to an increase
in
the use of collateral as a risk mitigant. It is also attributable to the changing nature of the
transactions between financial firms, including the increased use of repo transactions
and
derivatives in the wholesale funding markets.
Several changes in risk management practices have also made collateral more sensitive
to
liquidity risk. For example, margin calls are now made on a daily or intraday basis,
compared
to weekly or monthly, which was the practice ten years ago. In addition, bilateral
collateral
agreements, which allow both parties to request collateral, have become more
prominent
and the re-use of collateral has grown, with almost all large dealers routinely
rehypothecating
collateral they have received.
While the use of collateral mitigates counterparty credit risk, it affects funding liquidity
risk
because counterparties have to provide additional collateral at short notice if conditions
change. The more widely collateralisation is used, the more significant this risk
becomes,
especially as market price movements result in changes in the size of counterparty credit
exposures.
F. Payments systems and intraday liquidity needs
Many banks are also facing increasing challenges with respect to intraday liquidity
management in relation to both their own activities and to the activities of their customer
firms or banks. These challenges arise in part from recent improvements to the design of
payment and settlement systems, such as the adoption of large-value payment systems
with
intraday finality, (eg real-time gross settlement--RTGS systems) and of delivery-
versuspayment
securities settlement systems, the development of CLS to settle foreign exchange
trades, and the increasing use of central counterparties.6
These improvements have reduced certain interbank credit risks, as well as operational
risks.
At the same time, however, these changes have increased collateral needs within some
systems and increased the time-criticality of certain payments (eg those used to fund
6 Thesechanges have been described in a number of recent CPSS reports, including the 2006 CPSS report
Cross-border collateral arrangements. For more information on CLS Bank see the 2007 CPSS report:
Progress on reducing foreign exchange settlement risk http://www.bis.org/publ/cpss81.htm
expected or unexpected positions in CLS Bank, to fund settlement in other payment and
securities settlement systems, or to meet the margin calls of central counterparties).
As a result, many banks are facing new forms of intraday liquidity risks. The failure of an
institution to meet time critical payments could transmit a major liquidity shock to other
firms
domestically and internationally. It could also impair the functioning of short-term money
markets in multiple jurisdictions.
To ensure the smooth functioning of systems, central banks generally offer intraday
credit to
the participants of RTGS-type systems. However, collateral is almost always required to
obtain this credit. As such, institutions must have some form of liquidity available to meet
their obligations on a timely basis throughout the business day.
G. Cross border flows
As the volume and speed of cross-border flows has increased, financial markets are
increasingly integrated and intermediated. Many financial institutions have increased
their
international business and dependence on international markets. A few large global
financial
institutions are increasingly seeking to manage their intraday and overnight liquidity
demands
(including collateral) in a centralised manner across currencies and across borders.
Strong cross-border flows also raise the prospect that liquidity disruptions could pass
quickly
across different markets and settlement systems. Banks operating a “centralised”
liquidity
model may plan to meet a shortfall in one currency with funds in another currency, via
the
foreign exchange market or by transferring collateral across borders. Such banks
consequently need to factor into their plans the condition of overseas markets, as well as
the
time it takes to complete the transfer of funds or collateral across jurisdictions. Liquidity
may
not be fully transferable across borders, particularly in times of market stress, as each
national regulator requires sufficient liquidity to be held for local operations to protect
national
interests. Thus, an important element of conducting cross-border operations is the need
to
understand fully the supervisory and regulatory practices within each jurisdiction.
III. National liquidity regimes
A. Key features
Liquidity regimes have been developed along national lines to support the preservation
of the
safety and soundness of each country’s financial system. Supervisors have national
responsibilities to ensure that banks hold appropriate levels of liquidity ‘insurance’ (eg in
the
form of liquid assets or access to contingent funding). Supervisory regimes recognise
that
the interests of individual banks are closely aligned with the interests of their
shareholders
and thus may fail to take full account of the impact of their failure on the financial system
more broadly. This could result in banks under-insuring against liquidity risk from a
public
policy perspective in the absence of supervision.
Liquidity regimes are nationally based according to the principle of “host” country
responsibility (although in some cases, the task, though not responsibility, of supervision
of
branches is delegated to the home supervisor). The high level objectives for liquidity
supervision are similar across jurisdictions, although there is much diversity in how these
objectives translate into rules and guidelines. In addition, there is a diversity of approach
to
liquidity supervision within some countries. Surveyed countries indicate that the intensity
of
supervision tends to increase for the larger and more systemically important firms in
proportion to the assumed increase in risk. In some jurisdictions, different rules are
implemented for large and small banks. For example, in some countries the regime
embodies a more sophisticated approach for certain banks (where more flexibility is
granted
to the institution to use internal modelling methods), and a more prescriptive approach
principally designed for smaller banks. In another style of regime, the larger banks are
required to hold a large buffer of liquid assets compared to smaller banks, reflecting their
systemic importance.
One important differentiating factor across regimes is the extent to which supervisors
prescribe detailed limits on liquidity risk and insurance that banks should hold. This is in
contrast to an approach that relies more on reviewing and strengthening banks’ internal
risk
management systems, methods and reports. In recent years several regimes have
placed
greater emphasis on banks’ internal risk management practices to better capture the
risks
that arise from financial market innovations. Moreover, countries are currently assessing
their
liquidity regimes to determine whether there are areas that could be strengthened.
Broadly speaking, high-level approaches to supervising liquidity risk are common across
regimes: firms are expected to have specific policies to address liquidity risk; the use of
stress tests is commonplace; all regimes recognise the importance of contingency
funding
plans; and all regimes require firms to report information regularly to supervisors.
Regimes
differ in the extent to which requirements are prescribed and standardised. These
differences
are highlighted below through a review of the individual components of national liquidity
regimes.
Liquidity policies
Almost all regimes expect banks to document liquidity policies in order to set out the
internal
strategy for managing liquidity risk. Some regulatory regimes stop there, setting out no
explicit requirements or guidance on topics to be covered. The majority, however,
identify
specific topics that should be documented.
Broadly speaking, firms’ liquidity policies are expected to set out the internal processes
in
place to measure, monitor and control liquidity risk. The importance of contingency
funding
plans is emphasised by all jurisdictions. Outside that, the exact requirements of what
must be
outlined in the policies differ considerably across national regimes. For example, various
regimes require some combination of the following elements to be included in their
policies:
the need for adequate information systems; required processes to assess future cash
flows
and net funding requirements; the importance of specific approaches for the
management of
foreign currency flows; stress tests; the setting of internal limits; the need for
independent
review of internal policies; and the need to communicate the policy through the
institution.
Stress tests and scenario analyses
Stress tests and scenario analyses aim to identify potential weaknesses or vulnerabilities
in a
firm’s liquidity position, enabling changes to be put in place to counter those weaknesses
(eg
a diversification of funding sources or an increase in contingent liquidity sources). All
surveyed countries currently or will soon require banks to conduct liquidity stress
testing/scenario analyses, although some excuse smaller, less complex firms. Generally
speaking, supervisors require firms to undertake stress testing/scenario analyses at the
same level of consolidation as their overall approach to liquidity supervision.
In some countries, the supervisor sets broad guidance as to the type of shocks that
should
be assessed,7 while in others the choice is left to the individual firm.8 In both cases, the
behaviour of future cash flows is left to the individual firm to estimate. There are a variety
of
methods used by banks to estimate the behaviour of future cash flows. At one level, the
estimation may simply involve the judgement of experienced practitioners. Other
institutions
may use historical data or statistical modelling techniques. Supervisors have different
approaches to assess and/or approve these assumptions.9 Some supervisors provide
explicit
guidance on how the results should be used. For example, some regimes expect the
outputs
of the test to feed into contingency plans or the setting of limits.
In addition to these individual institution requirements, some supervisors apply pre-
defined
scenarios to a selection of financial institutions (bank, insurers, pension funds). These
are
conducted with the aim of assessing potential second-round effects and market-wide
responses.
Contingency funding plans
Contingency funding plans are used to set out firms’ strategies for dealing with stress
scenarios. They should set out management responsibilities and procedures to be
followed
once the contingency plan has been activated, and they should identify potential sources
of
liquidity to cover shortfalls that may arise in stressed conditions.
All surveyed countries expect firms to have pre-established contingency arrangements,
although the formality of the requirement varies. Similar to overall liquidity policies, there
do
not appear to be fundamental differences in national expectations. Rather, diversity can
be
seen in the detail of the requirements. Explicit guidance may be given on the relationship
between stress tests and contingency plans; the need for early warning indicators; the
communication strategy (internal and external); and the need to ensure operational
readiness to execute plans.
The setting of limits
Some regimes require banks to set internal limits or targets. These may include target
holdings of liquid assets, limits on maturity mismatches or limits on the reliance on a
particular funding source. These quantitative limits can help to constrain the amount of
liquidity risk that a bank takes, can help to ensure that banks are adequately prepared
for
stressed conditions or can serve as early warning indicators of stress or vulnerability.
Several regimes prescribe explicit limits or target ratios as part of the regulatory
requirements. Where targets are set for different purposes, their structures
understandably
7A common requirement is for the application of both an idiosyncratic shock and an aggregate market-wide
shock.
8 During the recent turmoil, some supervisors asked banks to undertake additional stress tests. Some
prescribed scenarios.
9 Some require firms to provide detailed justification of their assumptions. Some compare assumptions
across
the industry to review performance of individual firms relative to their peers. After the evaluation process,
corrections may be made, and if weaknesses are determined, the supervisor may take immediate action.
vary considerably.10 However, ratios set for similar purposes also differ across
jurisdictions in
the detail of application, particularly in the choice of behavioural assumptions.11
Standardised limits are relatively inflexible and hence are not so easily adapted to
changing
financial markets, compared to other tools such as stress tests (eg some do not
incorporate
off-balance sheet risks). In recent years several regimes have lowered their emphasis on
standardised limits. Several WGL members have reported plans to update such limits in
the
light of market developments.
Reporting requirements
All supervisors require banks to report information on their liquidity positions. Information
is
collected for a variety of reasons. Some data allow supervisors to identify the liquidity
risks
that banks are exposed to and to monitor the level of those risks. Other data items allow
supervisors to monitor the potential sources of liquidity that banks have available to
them.
Together, these data allow supervisors to determine whether liquidity pressure is
building at
the institution and whether banks are complying with regulatory requirements.
The data collected by national authorities differ greatly. Some jurisdictions collect raw
data
(eg a balance sheet or cash flow breakdown) while others collect pre-defined metrics
and
ratios. Data collected for compliance purposes mirror the construction of the limit or
target.
When pre-defined metrics are required, most regulators use standardised forms, with
prescribed definitions and behavioural assumptions. This style of data collection aids
crossindustry
comparison by supervisors, but can involve the duplication of work at firms (where
regulatory requirements are different from internal management requirements). A few
regulators allow individual firms to report data in line with their internal management
information systems (and hence internal definitions and behavioural assumptions). This
reduces industry burden, but makes cross-industry comparison more challenging.
Public disclosure
In most countries, public disclosure of information on firms’ liquidity positions is limited to
disclosure required by accounting rules and rules applicable to publicly traded
companies,
rather than by regulatory requirements. Generally, accounting rules require firms to
disclose
a maturity analysis for financial liabilities and a description of how liquidity is managed.
There
are a few cases where public disclosure arises explicitly from regulatory data or where
institutions are required to disclose key regulatory metrics in their annual accounts.
Basel II,
and in particular Pillar 3 (market discipline), should serve to increase public disclosure of
liquidity positions. Recent events highlighted the importance of consolidation rules, as
disclosure requirements generally are more exacting for on-balance sheet instruments
than
for exposures associated with off-balance sheet vehicles.
10 For example, for target holdings of liquid assets, the ratio may be (liquid assets / short-term liabilities > x
%). A
limit on a maturity mismatch may be (cash inflows / cash outflows including off-balance sheet items > y %).
An
example on a limit on the proportion of liabilities sourced from securitisation markets could be (ABS in
issue /
total liabilities < z %).
11 For example: What assets should be considered “liquid”? What haircuts should be applied to those
assets?
How should committed facilities be treated? What size of retail deposit withdrawal should be covered? What
currencies are fully convertible?
B. Diversity in liquidity regimes
The WGL sought to determine reasons for the diversity in national liquidity regimes, as
well
as the implications of this diversity. In part, such variances stem from differences in
financial
market conditions and differences in the vintages of national liquidity regimes. These
may
narrow over time as international financial market integration continues apace and as
national regimes are revised and updated. Diversity also arises from linkages to other
factors
which govern the resilience of the banking system to severe liquidity stress but may fall
outside the legal mandate of supervisors. These factors include nationally determined
factors
such as insolvency regimes, deposit insurance arrangements, and central bank credit
and
collateral policies, including intraday, standing facility, or emergency liquidity assistance
arrangements, as well as the structure of the banking sector.
Liquidity regimes are affected by policy choices made by national authorities relating to
the
desired resilience of banks to liquidity stress. These choices, in turn, influence
judgements
on the appropriate degree of liquidity insurance that should be held by the banking
system to
support the achievement of the desired resilience, taking into account important
influences
such as national deposit insurance arrangements and central bank policies. National
policy
choices are under review in a number of jurisdictions, with the case for review
strengthened
in the light of the current episode of severe liquidity stress.
The application of liquidity regimes on a local management or legal entity basis requires
that
each legal entity be sufficiently robust to external shocks. This may require a pool of
liquid
assets to be held locally, or for each entity to have independent access to contingent
liquidity
lines. Additionally, each entity must demonstrate conformity with local supervisory
guidelines
through the preparation of liquidity policies and production of regular data reports. The
WGL
highlighted reasons for this approach.
Protection of local entities: As well as supporting resilience of the core of an international
banking group, supervisors have a duty to help ensure the resilience of entities within
their
jurisdiction to protect local depositors. Because of national supervisory responsibilities
and
the risks of reputational contagion within a banking group, separate pools of liquidity are
typically required so as to provide a degree of resilience to each individual entity and
allow
regulators to protect the interests of local depositors.12 A robust liquidity position at an
individual entity level may also be key to the domestic crisis resolution process.
International
crisis resolution processes can be complicated by cross-border exposures. For this
reason,
some regulatory authorities restrict the cross-border movement of liquidity through
restrictions on intra-group exposures (thus limiting the scope for full centralised liquidity
risk
management).
Challenges in transferring liquidity: In certain circumstances, firms may also face
challenges
in transferring funds and securities across borders and currencies, especially on a same-
day
basis. For example, institutions operating centralised liquidity management may be
dependent on foreign exchange (FX) swap markets. During the recent market
turbulence, FX
swap markets became relatively illiquid at times, even for currency pairs that are
traditionally
highly liquid (and hence were assumed to stay open in stress tests). Moreover, if funds
are
12 For example, if the liquidity reserve of an entity in country B is transferred within a cross-border group to
country A where the local entity faces a liquidity shock but the transfer fails to resolve the problem within the
group, the local entity in country B is also highly likely to come under severe pressure and will have no
liquidity
buffer to prevent failure. In that event, depositors in country B are in a potentially worse position than before
the transfer. If, however, the transfer succeeds in stemming the problem, and there is no reputational
contagion, then depositors in entity A would be better off and those in entity B no worse off.
required on short notice via same-day settled FX swaps, they must be settled outside of
CLS, as currently that system is not set up to settle same-day FX transactions. Since
most
trades outside of CLS are not settled on a payment-versus-payment basis, banks
engaged in
same-day settled FX trades would be reliant upon finding a counterparty that is willing to
assume intraday credit risk, which may be difficult in stress situations. Finally, other
technical
factors, such as market settlement conventions and timing differences across payment
and
settlement systems, may complicate the transfer of funds or securities, and lengthen the
time
needed to transfer liquidity across currencies or borders.
C. Implications of diverse regimes for supervisors and cross-border firms
The discussion above considers the reasons for locally-based supervisory requirements,
abstracting from the specifics of each national regime. This part draws out some of the
additional implications for supervisors and firms of operating with the diversity of
regimes.
Level-playing field and competition issues: Diverse national objectives for the degree of
desired resilience to liquidity stress may give rise to potential level-playing field issues.
These
may be most pronounced for cross-border firms. For example, two otherwise identical
firms
based in two different jurisdictions may face different liquidity requirements, thus raising
questions of the evenness of competition in external markets and the scope for
regulatory
arbitrage. The WGL noted that there is a potential trade-off between the goal of
promoting
greater consistency in the supervisory approach to cross-border banks and the tailoring
of
the domestic regime to account for important factors that affect liquidity risk, such as
deposit
insurance arrangements and access to central bank lending and other forms of
quasigovernmental
funding.
Supervisory coordination: Given the diversity of supervisory approach, national
regulators
may be uncertain as to the level of resilience provided by other regimes, or the scope for
liquidity to flow across borders to satisfy an increase in demand for liquidity in another
part of
a cross-border group. In addition, a host regulator may, for example, have a lower
tolerance
to liquidity stress than a home regulator (or vice versa). Under the belief that the entire
banking group may come under pressure as a single entity, the host regulator may
consequently require the host entity to increase its level of liquidity insurance. That may
lead
to an increase in the level of insurance against liquidity risk (eg in the form of liquid
assets or
access to committed lines) across the group.
Increased cooperation and understanding between national supervisors may reduce
uncertainties as to the level of resilience provided by other regimes. WGL members
noted
that cooperation has improved in recent years, for example through the work of
supervisory
colleges.13 The importance of a good understanding clearly increases in stressed
conditions
because of the need for judgements on the prospect for liquidity flows between group
entities. Branches or subsidiaries could be reliant on liquidity flows from the parent to
survive,
which may not be forthcoming; or a foreign group entity may make a call on domestic
liquidity, weakening the position of the domestic entity.
Reporting and communication: Diversity in approaches to reporting may hamper
effective
communication between supervisory authorities as well as impose costs on firms. WGL
members noted, however, the balance to be struck between improving the effectiveness
of
cross-border communication and reducing the quality of information to domestic
supervisors,
13 Supervisory colleges bring together supervisors with responsibility for the supervision of specific legal
entities
within large cross border banking organisations in order to address coordination issues.
if reporting frameworks were compressed into a common template that failed to take
appropriate account of differences in the business models of banks in different
jurisdictions.
Indeed, going further, both industry and a number of WGL members noted the potential
merits of placing greater reliance on firms’ internal liquidity reporting and management
information systems, as these were most closely attuned to the different business
models
practised by individual entities. That in turn highlights another potential trade off given
the
desirability of undertaking peer group comparisons as an important component of
supervision, as such peer group comparisons would clearly be facilitated by greater
consistency of reporting, (either within or between international groups).
IV. Initial lessons from the current episode of stress
Recent months have provided a severe stress test of liquidity regimes. Although events
continue to unfold, the WGL has attempted to draw out the initial lessons from this
episode
as a key component of its overall assessment and stocktaking. In brief, the turmoil
began
against a background of a longstanding “search for yield” where credit and liquidity
premia
had been bid down to exceptionally low levels, and which had spurred rapid financial
innovation and growth of complex financial instruments. Rising arrears on US sub-prime
mortgages, nearly all of which were packaged in residential mortgage-backed securities
(a
large share of which were then purchased by managers of collateralised debt obligations
of
asset-backed securities), caused investors to lose faith in the ratings of these structured
securities. This, in turn, led to heightened concerns about the valuation of such
securities
and over which institutions were most exposed to losses.
The loss of investor confidence in a wide range of structured securities markets led to
risks
flowing on to banks’ balance sheets. The initial shock in credit markets was transmitted
through a fall in asset market liquidity, which led to an increase in funding risk. Money
markets tightened internationally as banks built up liquidity to meet contingent claims or
in
anticipation of having to meet such claims. Asset managers also stockpiled liquidity to
guard
against increased redemption risks. The combination of liquidity and balance sheet
pressures and heightened credit concerns made banks reluctant to provide others with
term
funding.
The impact of the shock on banks has differed across jurisdictions. Some medium-sized
banks that were very active in complex products or were particularly reliant on wholesale
funding were vulnerable to liquidity pressures. To date, very large banks, while often
significantly affected by weakening credit markets and exposure to complex instruments
and
to off-balance sheet vehicles, have retained access to a more diverse range of funding
and
have gained from some flight to quality. However, this is a situation that could change.
Banks
(often smaller ones) funded primarily by retail deposits have also faced less liquidity
pressure
than those more dependent on wholesale funds.
Authorities have increased the intensity of their supervision of liquidity in response to the
rise
in stress. Emerging lessons for liquidity risk management and supervision are
highlighted
below.
Stress testing: The nature, magnitude and duration of the shock across much of the
global
financial system was not fully anticipated by the financial sector. In most cases, stress
testing
had focussed on idiosyncratic or firm-specific shocks. Although that still had some value,
and
preparations for name-specific events (such as an inability to access wholesale markets
for a
period) aided resilience, recent events demonstrated that stress tests should also
capture the
implications of wider disruptions (eg market-wide events and events affecting multiple
markets or currencies simultaneously) and the combination of idiosyncratic and market-
wide
shocks which incorporate the behavioural responses of other affected banks. Some
supervisors noted that they had faced considerable industry resistance in advance of the
recent episode when they had tried to encourage more rigorous and comprehensive
stress
testing. The challenge of defining an appropriate level of stress remains a formidable
one for
both banks and supervisors.
Contingency funding plans and asset market liquidity: Recent events have highlighted
the
need to modify and strengthen contingency funding plans in some cases. Stress tests
and
contingency funding plans were often not sufficiently integrated. Moreover, the source of
the
recent funding shock involved instruments that some banks had assumed they would be
able
to use more extensively in their contingency plans. In particular, banks had made
assumptions about the asset market liquidity of certain structured products, ABCP and
loan
books that proved to be overly optimistic. They had often assumed continuous high
liquidity
of these markets, and indeed some had treated mortgage securitisation and ABCP as
very
resilient support facilities and core backstops in the event of funding difficulties. It had
not
been anticipated that the liquidity of such markets would evaporate; nor had there been
anticipation that this would be associated with widespread impairment of the term
interbank
market. The episode has raised the question of which assets could be relied upon for
consistent liquidity. That may be linked in part to central bank collateral lists as the ability
to
rediscount assets at the central bank may provide some underpinning to market liquidity.
Some supervisors also noted that banks were sometimes unprepared to execute their
contingency plans (for example because legal documentation was not in place). Other
contingency plans had, however, worked well, perhaps most particularly at some large
institutions with diversified funding sources, illustrating the need for a diversity of
elements
within a contingency plan.
Off-balance sheet activity and contingent commitments: Stress tests had also
underestimated
the risks of extending liquidity support to conduits and off-balance sheet vehicles.
Moreover, tests had failed to take account of contingencies that materialised when
banks felt
compelled to offer capital and liquidity support to affiliated investment vehicles on
reputational grounds (even when such support was not formally contracted). This
highlighted
the need for banks to take sufficient consideration of reputational risk and its implications
for
liquidity buffers.
Balance sheet management and internal transfer pricing: Recent events highlighted the
importance of close coordination between treasury functions and business lines to
ensure a
full appreciation of potential contingent liquidity risks. At some banks, treasury functions
had
been unaware of the contingent liquidity risk of new products or how evolving business
practices could change the contingent liquidity risk of existing business lines. Moreover,
the
extent to which firms’ internal transfer pricing systems assessed business lines for
building
contingent liquidity exposure varied from extensively to little or none. Banks that, before
the
turmoil began, were less rigorous in pricing contingent liquidity internally or externally
had
greater challenges in meeting their funding liquidity needs.
Capital: Capital allows banks to absorb unexpected losses and provides financial
flexibility to
support unanticipated asset growth or to sell assets at a discount if needed to meet
obligations. But while higher levels of capital may provide some reassurance to market
participants, recent events demonstrate that even well capitalised banks can face severe
liquidity problems. That demonstrates the need for strong liquidity risk management by
banks
and the importance of well-designed liquidity regimes.
Supervisory and market information: Members highlighted the importance of a nimble
approach by supervisors that allowed for the rapid collection and analysis of additional
information once stresses had been identified. Many members found that regular
reporting
frameworks for monitoring liquidity risk were inadequate in content (eg often missing
offLiquidity
Risk: Management and Supervisory Challenges 13
balance sheet items and funding pressure points), comparability and timeliness. Other
members were satisfied with their ability to gather more comprehensive data quickly
during
times of stress to supplement information gathered routinely. Many supervisors have
upgraded reporting templates and increased the intensity of monitoring, including calling
for
additional stress tests, and some supervisors plan to review reporting guidelines. Market
disclosure did not always meet the needs of market participants, and in some cases,
financial markets sought additional information on the liquidity positions of banks.
Central bank facilities: In some cases, when use of central bank marginal lending
facilities
became visible to the market, it was interpreted by market participants as a signal of
funding
difficulties. The perceived ‘stigma’ of borrowing from the central bank led to other banks
withdrawing lines and cutting exposures, thus risking an exacerbation rather than an
easing
of funding pressure.
Cross-border issues and exchange of information: The location of liquidity within legal
entities and across jurisdictions was important in some cases. Some banks did not
anticipate
the degree of impairment in FX swap markets at the onset of the period of severe stress.
Nonetheless, the existence of ‘trapped pools’ of liquidity was not judged to be a major
concern – in part because banks’ contingency plans were based on limited cross-border
transferability of liquidity, at least in the very short term. Members highlighted that
information
sharing and co-ordination among supervisors has been good in recent months, although
some host supervisors (particularly of branches) noted difficulties in establishing the
liquidity
position at group level.
V. Future work to strengthen liquidity risk management and
supervision
As a result of the findings of the WGL, the BCBS will take action aimed at strengthening
banks’ liquidity risk management in relation to the risks they hold. The WGL has begun
work
to improve supervisory practice and strengthen bank’s liquidity risk management through
the
updating and strengthening of core principles and best practice guidelines for banks and
supervisors. To that end, the WGL will update the BCBS’s February 2000 Sound
Practices
for Managing Liquidity in Banking Organisations by further developing the sound practice
principles to reflect recent experience. As part of this effort, the WGL will draw on recent
and
ongoing work on liquidity risk by the private and public sectors.
Potential areas of focus in updating the BCBS’s sound practice guidance include:
• The identification and measurement of the full range of liquidity risks, including
contingent liquidity risks associated with off-balance sheet vehicles;
• Stress testing, including greater emphasis on market-wide stresses and the linkage
of stress tests to contingency funding plans.
• The role of supervisors, including communication and cooperation between
supervisors, in strengthening liquidity risk management practices.
• The management of intra-day liquidity risks arising from payment and settlement
obligations both domestically and across borders (working with the Committee on
Payment and Settlement Systems).
• Cross-border flows and the management of foreign currency liquidity risk.
• The role of disclosure and the market discipline in promoting improved liquidity risk
management practices.
The BCBS plans to issue the revised sound practices for public comment later this year.
In
addition, the WGL will continue its work on evaluating the reasons for and implications of
the
diversity in national liquidity supervision regimes.
List of members of the

Working Group on Liquidity
Co-Chairs: Mr Nigel Jenkinson
Mr Gerhard Stahl*
Mr Arthur Angulo**
Australia: Mr Neil Grummitt
Belgium: Mr Jürgen Janssens
Canada: Mr Richard Gresser
China: Mr Liao Min
France: Mr Hedi Jeddi
Germany: Mr Jörg Schäfer
Mr Frank Pierschel
Hong Kong: Ms Rita Wan Wan Yeung
Italy: Mr Andrea Pilati
Japan: Mr Hiroshi Ota
Mr Yasushi Shiina*
Mr Junji Kuyama
Luxembourg: Mr Marco Lichtfous
Netherlands: Ms Hanne Meihuizen
Singapore: Mr Kim Leng Chua
Spain: Ms Beatriz Maria Domingo Ortuño
Sweden: Ms Petra Gressirer
Switzerland: Mr Robert Bichsel
Mr Peter Ruetschi
United Kingdom: Mr John Elliott
Mr Alan Sheppard*
Mr George Speight
Ms Diane Moore
Mr Guy Benn
* Until summer of 2007
** From December 2007
United States: Ms Mary Frances Monroe
Mr Craig Marchbanks
Ms Kathryn Chen
Mr Kyle Hadley
Mr Ray Diggs
Mr Scott Ciardi
EU Commission: Mr Giuseppe Siani
Committee of European Banking Supervisors: Ms Birgit Hoepfner
Committee on Payment and Settlement Mr Douglas Conover
Systems:
Financial Stability Institute: Mr Jeffrey Miller
Secretariat: Mr Bill Coen
Ms Mary Craig
Mr Steven Friedman*
• Until summer of 2007
Basel Committee
on Banking Supervision
Consultative Document
International framework
for liquidity risk
measurement, standards
and monitoring
Issued for comment by 16 April 2010
December 2009
Requests for copies of publications, or for additions/changes to the mailing list, should
be sent to:
Bank for International Settlements
Press & Communications
CH-4002 Basel, Switzerland
E-mail: publications@bis.org
Fax: +41 61 280 9100 and +41 61 280 8100
© Bank for International Settlements 2009. All rights reserved. Brief excerpts may be reproduced
or translated
provided the source is stated.
ISBN print: 92-9131-811-6
ISBN web: 92-9197-811-6
International Framework for Liquidity Risk Measurement, Standards and Monitoring
Table of Contents
I. Introduction.....................................................................................................................1
Regulatory standards – summary ...................................................................................2
Liquidity Coverage Ratio ........................................................................................3
Net Stable Funding Ratio .......................................................................................3
Monitoring tools – summary ............................................................................................3
Application issues for standards and monitoring tools – summary..................................4
II. Regulatory
standards ......................................................................................................5
II.1 Liquidity coverage ratio ..........................................................................................5
A. Stock of high quality liquid assets.................................................................6
B. Net cash outflows........................................................................................11
II.2 Net stable funding ratio ........................................................................................19
III. Monitoring
tools .............................................................................................................25
III.1 Contractual Maturity Mismatch.............................................................................25
III.2 Concentration of funding ......................................................................................27
III.3 Available unencumbered assets ..........................................................................29
III.4 Market-related monitoring tools............................................................................30
IV. Application issues for standards and monitoring
tools ..................................................31
Annex 1 Illustrative Template for the Liquidity Coverage
Ratio ..............................................32
Annex 2 Full Explanation for Required Stable Funding
Categories........................................34
Annex 3 Summary of Net Stable Funding
Ratio .....................................................................36
International Framework for Liquidity Risk Measurement, Standards and Monitoring
List of Abbreviations
ABCP Asset-backed commercial paper
ASF Available Stable Funding
CD Certificate of Deposit
CDS Credit Default Swap
CP Commercial Paper
CUSIP Committee on Uniform Security Identification Procedures
ECAI External Credit Assessment Institution
IRB Internal-ratings based
ISIN International Securities Identification Number
LCR Liquidity Coverage Ratio
NSFR Net Stable Funding Ratio
OBS Off-balance Sheet
PSE Public Sector Entity
RSF Required Stable Funding
SIV Structured Investment Vehicle
SME Small and Medium sized Enterprise
VRDN Variable Rate Demand Note
International Framework for Liquidity Risk Measurement, Standards and Monitoring 1
I. Introduction
1. Throughout the global financial crisis which began in mid-2007, many banks
struggled to maintain adequate liquidity. Unprecedented levels of liquidity support were
required from central banks in order to sustain the financial system and even with such
extensive support a number of banks failed, were forced into mergers or required
resolution.
These circumstances and events were preceded by several years of ample liquidity in
the
financial system, during which liquidity risk and its management did not receive the same
level of scrutiny and priority as other risk areas. The crisis illustrated how quickly and
severely liquidity risks can crystallise and certain sources of funding can evaporate,
compounding concerns related to the valuation of assets and capital adequacy.
2. A key characteristic of the financial crisis was the inaccurate and ineffective
management of liquidity risk. In recognition of the need for banks to improve their
liquidity
risk management and control their liquidity risk exposures, the Basel Committee on
Banking
Supervision1 (“the Committee”) issued Principles for Sound Liquidity Risk Management
and
Supervision in September 2008. These sound principles provide consistent supervisory
expectations on the key elements of a robust framework for liquidity risk management at
banking organisations. Such elements include:
board and senior management oversight;
the establishment of policies and risk tolerance;
the use of liquidity risk management tools such as comprehensive cash flow
forecasting, limits and liquidity scenario stress testing;
the development of robust and multifaceted contingency funding plans; and
the maintenance of a sufficient cushion of high quality liquid assets to meet
contingent liquidity needs.
3. Supervisors, for their part, are expected to assess both the adequacy of a bank's
liquidity risk management framework and its liquidity risk exposure. Supervisors are also
expected to take prompt action to address the bank’s risk management deficiencies or
excess exposure in order to protect depositors and enhance the overall stability of the
financial system.
4. To reinforce these supervisory objectives and efforts, the Committee has recently
focused on further elevating the resilience of internationally active banks to liquidity
stresses
across the globe, as well as increasing international harmonisation of liquidity risk
supervision. The Committee has developed two internationally consistent regulatory
standards for liquidity risk supervision as a cornerstone of a global framework to
strengthen
liquidity risk management and supervision. The standards also respond to
recommendations
of the G202 that called for the Committee to “....enhance tools, metrics and benchmarks
that
1 The Basel Committee on Banking Supervision is a committee of banking supervisory authorities which was
established by the central bank Governors of the Group of Ten countries in 1975. It consists of senior
representatives of bank supervisory authorities and central banks from Argentina, Australia, Belgium, Brazil,
Canada, China, France, Germany, Hong Kong SAR, India, Indonesia, Italy, Japan, Korea, Luxembourg,
Mexico, the Netherlands, Russia, Saudi Arabia, Singapore, South Africa, Spain, Sweden, Switzerland,
Turkey,
the United Kingdom and the United States. It usually meets at the Bank for International Settlements (BIS) in
Basel, Switzerland, where its permanent Secretariat is located.
2 Working Group 1 of the G20, Final report March 25, 2009, Enhancing Sound Regulation and Strengthening
Transparency.
2 International Framework for Liquidity Risk Measurement, Standards and Monitoring
supervisors can use to assess the resilience of banks’ liquidity cushions and constrain
any
weakening in liquidity maturity profiles, diversity of funding sources, and stress testing
practices”. Furthermore, the G20 recommended that “…the BCBS and national
authorities
should develop and agree by 2010 a global framework for promoting stronger liquidity
buffers
at financial institutions, including cross-border institutions.”3
5. It should be stressed that the standards establish minimum levels of liquidity for
internationally active banks. Banks are expected to meet these standards as well as
adhere
to all the principles set out in the September 2008 Sound Principles document
mentioned
above. As under the Basel Accord (for capital adequacy), national authorities are free to
adopt arrangements that set higher levels of minimum liquidity.
6. To further strengthen and promote consistency in international liquidity risk
supervision, the Committee has also developed a minimum set of monitoring tools to be
used
in the ongoing monitoring of the liquidity risk exposures of cross-border institutions and
in
communicating these exposures among home and host supervisors.
7. This document is organised as follows:
Section II discusses the two measures of liquidity risk exposure developed to be
formally-adopted standards for internationally active banking organisations.
Section III presents a set of common monitoring tools to be used by supervisors in
their monitoring of liquidity risks at individual institutions.
Section IV discusses application issues for the standards and monitoring tools.
8. The Committee welcomes comments on all aspects of these consultative
documents by 16 April 2010. Comments should be submitted by post (Secretariat of the
Basel Committee on Banking Supervision, Bank for International Settlements, CH-4002
Basel, Switzerland) or email (baselcommittee@bis.org). All comments will be published
on
the Bank for International Settlements’ website unless a commenter specifically requests
anonymity.
Regulatory standards – summary
9. Section II outlines two regulatory standards for liquidity risk which have been
developed to achieve two separate but complementary objectives. The first objective is
to
promote the short-term resiliency of the liquidity risk profile of institutions by ensuring
that
they have sufficient high quality liquid resources to survive an acute stress scenario
lasting
for one month. The Committee developed the Liquidity Coverage Ratio to achieve this
objective. The second objective is to promote resiliency over longer-term time horizons
by
creating additional incentives for banks to fund their activities with more stable sources
of
funding on an ongoing structural basis. The Net Stable Funding Ratio has been
developed to
capture structural issues related to funding choices.
10. These two standards are comprised mainly of specific parameters which are
internationally “harmonised” using specific and concrete values. Certain parameters,
however, will need to be set by national supervisors to take account of jurisdiction-
specific
conditions. For example, the percentage of potential run-off of retail deposits is partially
3 Declaration on Strengthening the Financial System, London Summit, 2 April 2009.
dependent on the structure of a jurisdiction’s deposit insurance scheme. In these cases,
the
parameters should be transparent and clearly outlined in the regulations of each
jurisdiction.
This will provide clarity both within the jurisdiction as well as across borders concerning
the
precise parameters that the banks are capturing in these metrics. There also need to be
public disclosures regarding regulatory standards.
Liquidity Coverage Ratio
11. The liquidity coverage ratio identifies the amount of unencumbered, high quality
liquid assets an institution holds that can be used to offset the net cash outflows it would
encounter under an acute short-term stress scenario specified by supervisors. The
specified
scenario entails both institution-specific and systemic shocks built upon actual
circumstances
experienced in the global financial crisis. The scenario entails:
a significant downgrade of the institution’s public credit rating;
a partial loss of deposits;
a loss of unsecured wholesale funding;
a significant increase in secured funding haircuts; and
increases in derivative collateral calls and substantial calls on contractual and
noncontractual
off-balance sheet exposures, including committed credit and liquidity
facilities.
12. As part of this metric, banks are also required to provide a list of contingent liabilities
(both contractual and non-contractual) and their related triggers.
Net Stable Funding Ratio
13. The net stable funding (NSF) ratio measures the amount of longer-term, stable
sources of funding employed by an institution relative to the liquidity profiles of the
assets
funded and the potential for contingent calls on funding liquidity arising from off-balance
sheet commitments and obligations. The standard requires a minimum amount of
funding
that is expected to be stable over a one year time horizon based on liquidity risk factors
assigned to assets and off-balance sheet liquidity exposures. The NSF ratio is intended
to
promote longer-term structural funding of banks’ balance sheets, off-balance sheet
exposures and capital markets activities.
Monitoring tools – summary
14. At present, supervisors use a wide range of quantitative measures to monitor the
liquidity risk profiles of banking organisations. A survey of Basel Committee members
conducted in early 2009 identified that more than 25 different measures and concepts
are
used globally by supervisors. These include both contractual and bank-estimated cash
flows
and maturity gaps across different time horizons; granular assessments of the liquidity
implications of specific balance sheet profiles; and the use of market data to monitor
potential
liquidity risks at banks. Such metrics enable monitoring of trends both within banking
organisations as well as within financial systems, for a more macroprudential approach
to
supervision.
15. To introduce more consistency, the Committee has developed a set of common
metrics that should be considered as the minimum types of information which
supervisors
should use in monitoring the liquidity risk profiles of supervised entities. In addition,
supervisors may use additional metrics in order to capture specific risks in their
jurisdictions.
The proposed set of monitoring metrics includes the following and may evolve further as
the
Committee conducts further work. One area in particular where more work on monitoring
tools will be conducted relates to intraday liquidity risk.
a. Contractual maturity mismatch: As a baseline to gain an understanding of the basic,
least complex aspects of a bank’s liquidity needs, banks should frequently conduct a
contractual maturity mismatch assessment. This metric provides an initial, simple
baseline of contractual commitments and is useful in comparing liquidity risk profiles
across institutions, and to highlight to both banks and supervisors when potential
liquidity needs could arise.
b. Concentration of funding: This metric involves analysing concentrations of
wholesale funding provided by specific counterparties, instruments and currencies.
A metric covering concentrations of wholesale funding assists supervisors in
assessing the extent to which funding liquidity risks could occur in the event that one
or more of the funding sources are withdrawn. The monitoring of this aspect of
liquidity risk mirrors the monitoring of large exposures on the assets side of banks'
balance sheets.
c. Available unencumbered assets: This metric measures the amount of
unencumbered assets a bank has which could potentially be used as collateral for
secured funding either in the market or at standing central bank facilities. This
should make banks (and supervisors) more aware of their potential capacity to raise
additional secured funds, keeping in mind that in a stressed situation this ability may
decrease.
d. Market-related monitoring tools: In order to have a source of instantaneous data on
potential liquidity difficulties, the Committee suggests utilising market-based data as
a valuable supplement to the metrics above. Useful data includes monitoring
market-wide data on asset prices and liquidity, institution-related information such
as credit default swap (CDS) spreads and equity prices, and additional institutionspecific
information related to the ability of the institution to fund itself in various
wholesale funding markets and the price at which it can do so.
Application issues for standards and monitoring tools – summary
16. This section outlines a number of issues related to the application of the proposed
standards and monitoring tools. These issues include the frequency with which banks
calculate and report the metrics, the scope of application of the metrics and the amount
of
public disclosure for both standards and monitoring tools.
II. Regulatory standards

17. The Committee has developed two standards for supervisors to use in liquidity risk
supervision. One standard, the Liquidity Coverage Ratio, addresses the sufficiency of a
stock
of high quality liquid assets to meet short-term liquidity needs under a specified acute
stress
scenario. The complementary standard, the Net Stable Funding Ratio, addresses
longerterm
structural liquidity mismatches.
18. To raise the resilience of banks to potential liquidity shocks, the standards should be
implemented consistently as part of a global framework. To this end, most of the specific
parameters used in these metrics are internationally harmonised, with specific and
concrete
values. Certain parameters, however, will need to be set by national supervisors to
reflect
jurisdiction-specific conditions. In these cases, the parameters should be transparent
and
clearly outlined in the regulations of each jurisdiction. This will provide clarity both within
the
jurisdiction as well as across borders.
19. In addition, supervisors may require an individual institution to adopt more stringent
standards or parameters to reflect its liquidity risk profile and the supervisor’s
assessment of
the institution’s compliance with the Committee’s sound principles.
II.1 Liquidity coverage ratio
Objective
20. This metric aims to ensure that a bank maintains an adequate level of
unencumbered, high quality assets that can be converted into cash to meet its liquidity
needs
for a 30-day time horizon under an acute liquidity stress scenario specified by
supervisors. At
a minimum, the stock of liquid assets should enable the bank to survive until day 30 of
the
proposed stress scenario, by which time it is assumed that appropriate actions can be
taken
by management and/or supervisors, and/or the bank can be resolved in an orderly way.
Definition of the metric
Stock of high quality liquid assets ≥ 100%
Net cash outflows over a 30-day time period
21. The Liquidity Coverage Ratio (LCR) builds on traditional liquidity “coverage ratio”
methodologies used internally by banks to assess exposure to contingent liquidity
events.
Net cumulative cash outflows for the scenario are to be calculated for 30 calendar days
into
the future. The standard would require that the value of the ratio be no lower than 100%
(ie
the stock of liquid assets should at least equal the estimated net cash outflows).4 Banks
are
expected to meet this requirement continuously and hold a stock of unencumbered, high
quality assets as a defence against the potential onset of severe liquidity stress. Banks
and
supervisors are also expected to be aware of any potential mismatches within the 30-
day
period and ensure that sufficient liquid assets are available to meet any cashflow gaps
throughout the month.
4 Or alternatively, net cash outflows over a 30-day time period < 0
22. The scenario proposed for this standard entails a combined idiosyncratic and
market-wide shock which would result in:
(a) a three-notch downgrade in the institution’s public credit rating;
(b) run-off of a proportion of retail deposits;
(c) a loss of unsecured wholesale funding capacity and reductions of potential sources
of secured funding on a term basis;
(d) loss of secured, short-term financing transactions for all but high quality liquid
assets;
(e) increases in market volatilities that impact the quality of collateral or potential future
exposure of derivatives positions and thus requiring larger collateral haircuts or
additional collateral;
(f) unscheduled draws on all of the institution’s committed but unused credit and
liquidity facilities; and
(g) the need for the institution to fund balance sheet growth arising from non-contractual
obligations honoured in the interest of mitigating reputational risk.
23. In summary, the stress scenario specified incorporates many of the shocks
experienced during the current crisis into one acute stress for which sufficient liquidity is
needed to survive up to 30 calendar days.
24. This stress test should be viewed as a minimum supervisory requirement for banks.
Banks are still expected to conduct their own stress tests to assess the level of liquidity
they
should hold beyond this minimum, and construct scenarios that could cause difficulties
for
their specific business activities. Such internal stress tests should incorporate longer
time
horizons than the ones mandated by this standard. Banks are expected to share these
additional stress tests with supervisors. The proposed standard should be a key
component
of the regulatory approach, but must be supplemented by detailed supervisory
assessments
of other aspects of the bank’s liquidity risk management framework in line with the
Committee’s Sound Principles.
25. The LCR consists of two components:
A. Value of the stock of high quality liquid assets in stressed conditions.
B. Net cash outflows, calculated according to the scenario parameters set by
supervisors.
A. Stock of high quality liquid assets
26. The numerator of the LCR is the “stock of high quality liquid assets”. Under the
proposed standard, banks must hold a stock of unencumbered,5 high quality liquid
assets
which is clearly sufficient to cover cumulative net cash outflows (as defined below) over
a 30-
day period under the prescribed stress scenario.
5 “Unencumbered” means not pledged either explicitly or implicitly in any way to secure, collateralise or
credit
enhance any transaction and not held as a hedge for any other exposure. Assets which qualify for the stock
of
high quality liquid assets which have been pledged to the central bank but are not utilised may be included
in
the stock.
27. As supported by the Financial Stability Board in its September 2009 report to the
G20, the LCR establishes a harmonised framework to ensure that global banks have
sufficient high-quality liquid assets to withstand a stressed scenario (as set out in the
LCR).
In order to qualify as a “high-quality liquid asset”, assets should be liquid in markets
during a
time of stress and, ideally, be central bank eligible.
Characteristics of high quality liquid assets
28. The 2007-2009 crisis reinforced the need to examine carefully the liquidity of asset
markets, and relatedly, the characteristics that allow some markets to remain liquid in
times
of stress. Banks need to be careful not to be misled by the wide range of liquid markets
during booms. Assets are considered to be high quality liquid assets if they can be easily
and
immediately converted into cash at little or no loss of value. The liquidity of an asset
depends
on the underlying stress scenario, the volume to be monetised and the time-frame
considered. Nevertheless, there are certain assets that are more likely to generate funds
without incurring large fire-sales even in times of stress. This section outlines factors
which
influence whether or not the market for an asset can be relied upon to raise liquidity
when
considered in the context of possible stresses.
29. During the consultative period and quantitative impact study, the Committee will
analyse the trade-offs between the severity of the stress scenario and the definition of
the
stock of liquid assets which will be held to meet the standard. The final calibration of the
factors of the outflows and inflows, as well as the composition of the stock of liquid
assets,
will be sufficiently conservative to create strong incentives for banks to maintain prudent
funding liquidity profiles, while minimising the negative impact of its liquidity standards on
the
financial system and broader economy. As such, the Committee is assessing the impact
of
both a narrow definition of liquid assets comprised of cash, central bank reserves and
high
quality sovereign paper, as well as a somewhat broader definition which could also
include a
proportion of high quality corporate bonds and/or covered bonds. The Committee will
gather
data on this defined range of asset classes to analyse the impact and trade-offs of
various
options involved in defining the stock of high quality liquid assets. The text below
describes
the general characteristics of high quality liquid assets and outlines the specific
instruments
for which the Committee will collect data, along with information on haircuts currently
associated with these assets in both normal times and periods of stress.
Fundamental characteristics
Low credit and market risk: assets which are less risky tend to have higher
liquidity. On the credit risk front, high credit standing of the issuer and a low degree
of subordination increases an asset’s liquidity. On the market risk front, low
duration,6 low volatility, low inflation risk and being denominated in a convertible
currency with low foreign exchange rate risk all enhance an asset’s liquidity.
Ease and certainty of valuation: an asset’s liquidity increases if market
participants are more likely to agree on its valuation. A liquid asset’s pricing formula
must be easy to calculate and not depend on strong assumptions. The inputs into
those pricing formula must also be publicly available. In practice this should rule out
the inclusion of any exotic product.
6 Duration measures the price sensitivity of a fixed income security to changes in interest rate.
Low correlation with risky assets: the stock of high quality liquid assets should
not be subject to wrong-way risk. Assets issued by financial firms, for instance, are
more likely to be illiquid in times of liquidity stress in the banking sector.
Listed on a developed and recognised exchange market: being listed increases
an asset’s transparency.
Market-related characteristics
Active and sizable market: the asset should have active outright sale and repo
markets at all times (which means having a large number of market participants and
a high trading volume). Market breadth (price impact per unit of liquidity) and market
depth (units of the asset can be traded for a given price impact) should be good.
Presence of committed market makers: quotes will always be available for buying
and/or selling the asset.
Low market concentration: diverse group of buyers and sellers in an asset’s
market increases the reliability of its liquidity.
Flight to quality: historically, the market has shown tendencies to move into some
types of assets in a systemic crisis.
30. As outlined by these characteristics, the test of the “high quality” of assets is that by
way of sale or secured borrowing, their liquidity-generating capacity is assumed to
remain
intact even in periods of severe idiosyncratic and market stress: indeed such assets
often
benefit from a flight to quality in these circumstances. Lower quality assets fail to meet
that
test. An attempt by a bank to raise liquidity from lower quality assets under conditions of
severe market stress would entail acceptance of a large fire-sale discount or haircut to
compensate for high market risk. That may not only erode the market’s confidence in the
bank, but would also generate mark-to-market losses for banks holding similar
instruments
and add to the pressure on their liquidity position, thus encouraging further fire sales and
declines in prices and market liquidity. In these circumstances, private market liquidity
for
such instruments is likely to evaporate extremely quickly, as evidenced in the current
crisis.
Taking into account the system-wide response, only high quality liquid assets meet the
test
that they can be readily converted into cash under severe stress in private markets.
31. High quality liquid assets should also ideally7 be eligible at central banks. Central
banks provide a further backstop to the supply of banking system liquidity under
conditions of
severe stress. Central bank eligibility should thus provide additional confidence that
banks
hold a reserve of high quality liquid assets that could be used in events of severe stress
without damaging the broader financial system. That in turn would raise confidence in
the
safety and soundness of liquidity risk management in the banking system.
Operational requirements
32. This stock of high quality liquid assets must be available for the bank’s treasury to
convert into cash to fill funding gaps at any time between cash inflows and outflows
during
the stressed period. These assets must be unencumbered and freely available to the
relevant group entities. At the consolidated level, banks may also include in the stock
qualifying liquid assets which are held to meet legal entity requirements (where
applicable),
7 In most jurisdictions, high quality liquid assets should be central bank eligible in addition to being liquid in
markets during stressed periods. In jurisdictions where central bank eligibility is limited to an extremely
narrow
list of assets, a jurisdiction may allow unencumbered, non-central bank eligible assets which meet the liquid
asset characteristics to count as part of the stock.
to the extent that the related risks are also reflected in the consolidated standard. The
stock
of liquid assets should not be co-mingled with or used as hedges on trading positions, be
designated as collateral or be designated as credit enhancements in structured
transactions,
and should be managed with the clear and sole intent for use as a source of contingent
funds. The stock should be under the control of the specific function or functions charged
with managing the liquidity risk of the institution. A bank should periodically monetise a
proportion of the assets in its liquid assets buffer through repo or outright sale to the
market
in order to test the usability of the assets.
33. While the LCR is expected to be met and reported in a common currency,
supervisors and banks should also be aware of the liquidity needs in each significant
currency. The bank should be able to use the stock to generate liquidity in the desired
currency and in the jurisdiction in which the liquidity will be required. As such, banks are
expected to be able to meet their liquidity needs in each currency and maintain high
quality
liquid assets consistent with the distribution of their liquidity needs by currency.
Definition of liquid assets
34. The stock of high quality liquid assets should be comprised of assets which meet the
characteristics outlined above. The following list describes the assets which meet these
characteristics and can therefore be used as the stock of liquid assets:
(a) cash;
(b) central bank reserves, to the extent that they can be drawn down in times of stress;8
(c) Marketable securities representing claims on or claims guaranteed by sovereigns,
central banks, non-central government public sector entities (PSEs), the Bank for
International Settlements, the International Monetary Fund, the European
Commission, or multilateral development banks as long as all the following criteria
are met:
(i) they are assigned a 0% risk-weight under the Basel II standardised
approach, and
(ii) deep repo-markets exist for these securities, and
(iii) the securities are not issued by banks or other financial services entities.
(d) government or central bank debt issued in domestic currencies by the country in
which the liquidity risk is being taken or the bank’s home country.
35. In addition, the Committee will gather data on the following instruments to analyse
the impact of this standard on the financial sector. If included in the stock of liquid
assets,
these instruments would receive substantial haircuts, would comprise not more than
50% of
the overall stock, and the porfolio would have to be diversified. The haircut would be
applied
to the current market value of the respective asset.
8 Local supervisors should discuss and agree with the relevant central bank the extent to which central bank
reserves should count towards the stock of liquid assets, ie the extent to which reserves are able to be
drawn
down in times of stress.
36. Corporate bonds9 that, depending on their credit assessment, receive either a 20%
or a 40% haircut and satisfy all of the following conditions:
Central bank eligibility10 for intraday liquidity needs or overnight liquidity shortages in
relevant jurisdictions.
Not issued by a bank, investment or insurance firm.
Low credit risk: assets have a credit assessment by a recognised external credit
assessment institution (ECAI) of at least AA (assigned a 20% haircut), or A-
(assigned a 40% haircut) or do not have a credit assessment by a recognised ECAI
and are internally rated as having a probability of default (PD) corresponding to a
credit assessment that is at least AA or A-, respectively.
Traded in large, deep and active markets characterised by a low level of
concentration. The bid-ask-yield spread has not exceeded 40 bsp (assigned a 20%
haircut) or 50 bsp (assigned a 40% haircut) during the last 10 years or during a
relevant period of significant liquidity stress.
Proven record as a reliable source of liquidity in the markets (repo and sale) even
during stressed market conditions: ie, maximum decline of price or increase in
haircut over a 30-day period during the last 10 years or during a relevant period of
significant liquidity stress not exceeding 10%.
37. Covered bonds11 that, depending on their credit assessment, receive either a 20%
or a 40% haircut and satisfy all of the following conditions:
Central bank eligibility for intraday liquidity needs or overnight liquidity shortages in
relevant jurisdictions.
Not issued by the bank itself.
Low credit risk: assets have a credit assessment by a recognised ECAI of at least
AA (assigned a 20% haircut), or A- (assigned a 40% haircut), or do not have a credit
assessment by a recognised ECAI and are internally rated as having a PD
corresponding to a credit assessment of at least AA or A-, respectively.
Traded in large, deep and active markets characterised by a low level of
concentration. The bid-ask yield spread has not exceeded 50 bsp during the last 10
years or during a relevant period of significant liquidity stress.
Proven record as a reliable source of liquidity in the markets (sale) even during
stressed market conditions: ie, maximum decline of price or increase in haircut over
9 Corporate bonds in this case only include plain vanilla assets whose valuation is easy and standard and
does
not depend on private knowledge, ie these do not include complex structured products or subordinated debt.
If
firms merge, the assets issued by the new firm receive the liquidity value of the respective firm whose assets
had the least liquid characteristics before the merger.
10 Central bank eligibility: In some jurisdictions, the list of central bank eligible assets does not include
corporate
bonds. In these cases, the relevant supervisors may exercise discretion to allow non-central bank eligible
corporate bonds provided that they meet the other respective criteria.
11 Covered bonds are bonds issued and owned by a bank and subject by law to special public supervision
designed to protect bond holders. Proceeds deriving from the issue of these bonds must be invested in
conformity with the law in assets which, during the whole period of the validity of the bonds, are capable of
covering claims attaching to the bonds and which, in the event of failure of the issuer, would be used on a
priority basis for the reimbursement of the principal and payment of the accrued instrument.
a 30-day period during the last 10 years or during a relevant period of significant
liquidity stress not exceeding 10%.
B. Net cash outflows
38. Net cash outflows12 are defined as cumulative expected cash outflows minus
cumulative expected cash inflows arising in the specified stress scenario in the time
period
under consideration. This is the net cumulative liquidity mismatch position under the
stress
scenario measured at the test horizon. Cumulative expected cash outflows are
calculated by
multiplying outstanding balances of various categories or types of liabilities by assumed
percentages that are expected to roll-off, and by multiplying specified draw-down
amounts to
various off-balance sheet commitments. Cumulative expected cash inflows are
calculated by
multiplying amounts receivable by a percentage that reflects expected inflow under the
stress
scenario.
39. While most of these factors will be applied in a harmonised way across jurisdictions,
there are a few select parameters for which each supervisory regime will determine the
percentages to apply to banks in their jurisdiction. In the latter case, parameters and
factors
need to be transparent and made publicly available.
40. The template in Annex 1 provides an example of the framework that banks should
use and the factors that are applied to each category. It is important to note that banks
should avoid double counting items – ie in order to be included as part of the “stock of
liquid
assets” (ie the numerator), the assets can not also be counted as cash inflows, and the
assets must be unencumbered (not pledged either explicity or implicitly in any way to
secure, collateralise or credit enhance any transaction and not held as a hedge for any
other
exposure) and available at all times throughout the period.
Cash outflows
(i) Retail deposit run-off
41. Retail deposits are defined as deposits placed at a bank by a natural person, not a
legal entity, and exclude deposits placed by sole proprietorships and partnerships. Retail
deposits are divided into “stable” and “less stable” portions of funds as described below,
with
run-off rates listed for each category.
(a) Stable deposits, 7.5% and higher - Stable deposits will receive at least a
7.5% run-off factor in each jurisdiction and refer to the portion of deposits which are
covered by an effective deposit insurance scheme and where:
– the depositors have other established relationships with the same bank which
make deposit withdrawal highly unlikely; or
– the deposits are in transactional accounts (eg accounts where salaries are
automatically credited).
An effective deposit insurance scheme refers to one which is in effect and
guarantees that it has the ability to make prompt payouts. The presence of deposit
insurance alone is not sufficient to consider a deposit “stable”.
12 Where applicable, cash inflows and outflows should include earned interest which is expected to be
received
during the time horizon.
(b) Less stable deposits, 15% and higher: Individual jurisdictions should then
create additional factors as required to apply to buckets of potentially less stable
retail deposits in their jurisdictions, with a minimum run-off factor of 15%. These
jurisdiction-specific factors should be clearly outlined and publicly transparent. Less
stable deposits could include deposits which are not covered by effective deposit
insurance, high value-deposits, deposits of sophisticated or high net worth
individuals and deposits which can be withdrawn quickly (eg internet deposits) and
foreign currency deposits, as determined by each jurisdiction.
42. If a bank is not able to readily identify which retail deposits would qualify as “stable”
under the above definition (ie the bank cannot determine which deposits are covered by
a
deposit insurance scheme), it should apply the highest percentage that supervisors
deem
applicable to retail deposits for the full amount of retail deposits.
43. Fixed or time deposits, regardless of maturity, that have a withdrawal penalty not
materially greater than the loss of interest, should be treated no differently from other
types
of deposits and be subject to the same run-off factor as other deposits in the same
bucket.
Term deposits which do have a withdrawal penalty that is materially greater than the loss
of
interest should be treated consistently with the term of their funding – ie qualifiying
deposits
with a term beyond the 30-day horizon would not receive a run-off factor in this scenario
and
those within the 30-day horizon would either be treated as “stable” or “less stable”
according
to the definitions above.
44. Foreign currency deposits are deposits denominated in a currency other than the
predominant currency used in the jurisdiction the bank is operating in. Supervisors will
determine the run-off factor that banks in their jurisdiction should use for foreign currency
deposits. Foreign currency deposits will be considered as “less stable” if there is a
reason to
believe that such deposits are more volatile than domestic currency deposits. Factors
affecting the volatility of foreign currency deposits include the type and sophistication of
the
depositors, and depositors’ purpose of placing such deposits.
(ii) Unsecured wholesale funding run-off
45. For the purposes of this standard, "unsecured wholesale funding” is defined as
those liabilities and general obligations that are raised from non-natural persons (ie legal
entities, including sole proprietorships and partnerships) and are not collateralised by
legal
rights to specifically designated assets owned by the borrowing institution in the case of
bankruptcy, liquidation or resolution. Obligations related to derivative contracts are
explicitly
excluded from this definition.
46. The wholesale funding included in this ratio is all funding that is callable13 within the
scenario's horizon of 30 days or that has its earliest possible contractual maturity date
situated within this horizon (such as maturing term deposits and non-secured debt
securities)
as well as funding with an undetermined maturity.
47. For the purposes of the standard, amounts of unsecured wholesale funding held by
the institution are to be categorised as detailed below, based on the assumed sensitivity
of
the funds providers to the rate offered and the credit quality and solvency of the
borrowing
institution. This is determined by the type of fund providers and their level of
sophistication,
as well as their operational relationships with the bank. The run-off rates for the scenario
are
listed for each category.
13 Taking into account any embedded options to call the funding before contractual maturity.
(a) Unsecured wholesale funding provided by small business customers: 7.5%, 15%
and higher
48. Unsecured wholesale funding provided by small business customers is treated the
same way as retail deposits for the purposes of this standard, effectively distinguishing
between a "stable" portion of funding provided by small business customers and
different
buckets of less stable funding defined by each jurisdiction. The same bucket definitions
and
associated run-off factors apply as for retail deposits, with the "stable" portion of
unsecured
wholesale funding provided by small business customers receiving a minimum 7.5% run-
off
factor and less stable funding categories receiving minimum run-off factors of 15%.
49. This category consists of deposits and other extensions of funds made by
nonfinancial
small business customers14 of the borrowing institution that are generally
considered as having similar liquidity risk characteristics to retail accounts, provided the
total
aggregated funding raised from one small business customer is less than €1 million15 (on
a
consolidated basis where applicable).
50. “Aggregated funding” means the gross amount (ie not taking any form of credit
extended to the legal entity into account) of all forms of funding (eg deposits or debt
securities for which the counterpart is known to be a small business customer). In
addition,
“from one small business customer” means one or several legal entities that may be
considered as a single creditor (eg in the case of a small business that is affiliated to
another
small business, the limit would apply to the bank’s funding received from both
businesses).
(b) Unsecured wholesale funding provided by non-financial corporate customers,
sovereigns, central banks and public sector entities with operational relationships:
25%
51. Deposits and other extensions of funds made by non-financial corporate customers
(other than small business customers), sovereigns, central banks and public sector
entities
that are demonstrated to be specifically needed for operational purposes may receive a
25%
run-off factor if the customer has an established cash management or other
administrative
funds relationship with the bank upon which it has a substantive dependency. Only the
specific amount of deposits utilised for these operational functions qualify for the 25%
factor.
52. Established cash management services include those products and services used
by a customer to manage its cash flows, assets and liabilities, and conduct financial
transactions necessary to the customer’s ongoing operations. Examples of such
services
include, but are not limited to: provision of information or information systems used to
manage the customer’s financial transactions, payment remittance and deposit collection
and
aggregation, investment of excess funds, payroll administration, control over the
disbursement of funds, automated payments and other transactions that facilitate
financial
operations.
53. The portion of these deposits that is fully covered by deposit insurance can receive
the same treatment as “stable” retail deposits.
14 Along the lines of the IRB approach in the capital framework, an SME is defined as a legal entity, sole
proprietorship or partnership where the reported sales for the consolidated group of which the firm is a part
is
less than €50 million. See paragraph 273 of the 2006 International Convergence of Capital Measurement
and
Capital Standards: A Revised Framework – Comprehensive Version (“Basel II framework”).
15 In accordance with paragraphs 70 and 231 of the Basel II framework.
(c) Unsecured wholesale funding provided by non-financial corporate customers: 75%
54. This category is defined as all deposits and other extensions of funds made by
nonfinancial
corporate customers (that are not categorised as small business customers) which
are not specifically held for operational purposes (as defined above). The run-off factor
for
these funds is set at 75%.
(d) Unsecured wholesale funding provided by other legal entity customers: 100%
55. The run-off factor for these funds is set at 100% and consists of deposits and other
extensions of funds made by financial institutions (including banks, securities firms,
insurance companies, multilateral development banks etc), fiduciaries,16 beneficiaries,17
conduits and special purpose vehicles, sovereigns and central banks, public sector
entities;
affiliated entities of the bank and other entities not included in the prior three categories.
56. All notes, bonds and other debt securities are included in this category unless the
counterparty is known to be a retail customer, a small business customer or a non-
financial
corporate customer, in which case the funding can be included in the related categories.
(iii) Secured funding run-off
57. For the purposes of this standard, "secured funding” is defined as those liabilities
and general obligations that are raised from non-natural persons (ie legal entities) and
are
collateralised by legal rights to specifically designated assets owned by the borrowing
institution in the case of bankruptcy, liquidation or resolution.
58. Loss of secured funding on short term financing transactions – in this scenario,
the ability to continue to transact repurchase, reverse repurchase and other securities
lending transactions is limited to transactions backed by high quality liquid assets. Due
to the
high quality of these assets, no reduction in funding availability against these assets will
occur. For the scenario, a bank should apply the following factors to all outstanding
secured funding transactions with maturities within the 30 calendar day stress
timeframe.18
59. Note that there can be no double counting of these assets – ie if a liquid asset is
being used for secured funding, it cannot also count as part of the pool of liquid assets or
as
a cash inflow.
16 Defined in this context as a legal entity that is authorised to manage assets on behalf of a third party.
Fiduciaries include asset management entities such as hedge funds, pension funds and other collective
investment vehicles.
17 Defined in this context as a legal entity which receives, or may become eligible to receive, benefits under
a
will, insurance policy, retirement plan, annuity, trust, or other contract.
18 To the extent an institution uses a “matched book” financing strategy, ie transactions in which repurchase
and
reverse repurchase transactions exist, for such matched transactions in which i) the security on each
transaction has the same unique identifier (eg ISIN number or CUSIP) and ii) the term of each transaction
both fall within the 30-day time horizon, there will be no incremental net cash outflow requirement as these
inflows and outflows are assumed to off-set each other.
Asset Category for existing secured
funding transactions
Amount to add into “Outflows”
category, due to lack of roll-over.
1. Government debt issued in domestic
currencies by the country in which the
liquidity risk is being taken or the bank’s
home country.
2. Marketable securities representing
claims on or claims guaranteed by
sovereigns, central banks, BIS, IMF,
EC, non-central government public
sector entities (PSEs) or multilateral
development banks as long as all the
following criteria are met:
- they are assigned a 0% risk-weight
under the Basel II standardised
approach, and
- deep repo-markets exist for these
securities, and
- the debt is not issued by banks or
other financial services entities
0%
All Other 100%
(iv) Additional requirements
60. Increased liquidity needs related to downgrade triggers embedded in short
term financing transactions, derivatives and other contracts – (100% of the amount
of
collateral that would be posted for any downgrade up to and including a 3-notch
downgrade).
Often, contracts governing derivatives and other transactions have clauses that require
the
posting of additional collateral upon the downgrade of the institution by a recognised
credit
rating organisation. The scenario therefore requires that for each contract in which
“downgrade triggers” exist, the bank assume that 100% of this additional collateral will
have
to be posted for any downgrade up to and including a 3-notch downgrade.
61. As contract clauses often specify incremental collateral requirements beyond a 3-
notch downgrade, banks should list and supervisors should monitor the cumulative
incremental collateral required for downgrades of greater than 3 notches to ascertain the
need to increase the stock of high quality liquid assets to address these additional
collateral
needs. Supervisory oversight should also be employed to monitor potential contractual
changes in legal documentation governing transactions that may develop in an attempt
to
circumvent this requirement.
62. Increased liquidity needs related to market valuation changes on derivative
transactions – (% determined at national discretion). As market practice requires full
collateralisation of mark to market exposures on derivative transactions, banks face
potentially substantial liquidity risk exposures to these valuation changes. National
supervisors will work with supervised institutions in their jurisdictions to determine the
liquidity risk impact of this factor and the resulting stock of high quality liquid assets that
should accordingly be maintained. Supervisors should disclose their requirements
publicly.
63. Increased liquidity needs related to the potential for valuation changes on
posted collateral securing derivative transactions – (20%) Observation of market
practices indicate that most counterparties to derivatives transactions typically are
required to
secure the mark to market valuation of their positions and that this is predominantly done
using cash or high quality liquid sovereign debt. For posted collateral that includes cash
and
high quality liquid sovereign debt, the framework will not require that a stock of liquid
assets
be maintained. If however, counterparties are securing mark to market exposures with
other
forms of collateral, to cover the potential loss of market value on those securities, 20% of
the
value of all such posted collateral will be required to be added to the stock of liquid
assets by
the bank posting such collateral. This 20% will be calculated off the notional amount
required
to be posted as collateral after consideration of any haircuts that may be applicable to
the
collateral category.
64. Loss of funding on asset-backed commercial paper, conduits, securities
investment vehicles and other such financing facilities – (100% of maturing amount
and
100% of returnable assets). Banks having structured financing facilities that include the
issuance of short term debt instruments such as asset backed commercial paper, should
fully
consider the potential liquidity risk arising from these structures. These risks include, but
are
not limited to i) the inability to refinance maturing debt, and ii) the existence of
derivatives or
derivative-like components contractually written into the documentation associated with
the
structure which would allow the “return” of assets in a financing arrangement, or which
require the original asset transferor to provide liquidity, effectively ending the financing
arrangement ("liquidity puts").
Potential Risk Element Stock of High Quality Liquid Assets
Required
Debt maturities within the calculation period 100% of maturing amount
Embedded options in financing arrangements that
allow for the return of assets
100% of the amount of assets which
could potentially be returned, or the
liquidity required
65. Loss of funding on term asset-backed securities, covered bonds and other
structured financing instruments – The scenario assumes the outflow of 100% of the
maturities within the 30 day period (as this assumes that the re-financing market will not
exist).
66. Draws on committed credit and liquidity facilities – For the purpose of the
proposed standard, credit and liquidity facilities are defined as explicit contractual
agreements and/or obligations to extend funds at a future date to retail or wholesale
counterparties. For the purpose of the proposed standard, these facilities only include
contractually irrevocable (“committed”) or conditionally revocable agreements to extend
funds in the future. Unconditionally revocable facilities which are unconditionally
cancellable
by the bank (in particular, those without a precondition of a material change in the credit
condition of the borrower) are excluded. These off-balance sheet facilities or funding
commitments can have long or short-term maturities, with short-term facilities frequently
renewing or automatically rolling-over. In a stressed environment, it will likely be difficult
for
customers drawing on facilities of any maturity, even short-term maturities, to be able to
quickly pay back the borrowings. Therefore, for purposes of this stress test, all facilities
that
are assumed to be drawn (as outlined in the paragraphs below) will remain outstanding
at
the amounts assigned throughout the duration of the test, regardless of maturity.
(a) Draw downs on committed credit and liquidity facilities to retail clients: 10%.
For committed credit and liquidity facilities extended to retail clients (natural
persons), banks should hold liquid assets equal to 10% of the currently undrawn
portion of these credit and liquidity facilities.
(b) Draw downs on committed credit facilities to non-financial corporate
customers: 10%. For committed credit facilities extended to non-financial
corporates (including small businesses, sole proprietorships and partnerships),
banks should hold liquid assets equal to 10% of the currently undrawn portion of
these credit facilities.
(c) Draw downs on committed liquidity facilities to non-financial corporate
customers: 100%. For committed liquidity facilities extended to non-financial
corporates (including small businesses, sole proprietorships and partnerships),
banks should hold liquid assets equal to 100% of the currently undrawn portion of
these liquidity facilities. Liquidity facilities are defined as back-up lines in place to
refinance the maturing debt of customers in situations where they are unable to
attract funding in financial markets.
(d) Draw downs on committed credit and liquidity facilities to other legal entity
customers: 100%. For committed credit and liquidity facilities extended to other legal
entity customers such as financial institutions (including banks, securities firms,
insurance companies, multilateral development banks etc), fiduciaries,19
beneficiaries,20 conduits and special purpose vehicles, sovereigns and central
banks, public sector entities; affiliated entities of the bank and other entities not
included in the prior categories, banks should hold liquid assets equal to 100% of
the currently undrawn portion of these credit and liquidity facilities.
67. Other contingent funding liabilities – These contingent funding liabilities may be
either contractual or non-contractual. Non-contractual contingent funding obligations
include
associations with, or sponsorship of, products sold or services provided that may require
the
support or extension of funds in the future under stressed conditions. Non-contractual
obligations may be embedded in financial products and instruments sold, sponsored, or
originated by the institution that can give rise to unplanned balance sheet growth arising
from
support given for reputational risk considerations. These include products and
instruments
for which the customer or holder has specific expectations regarding the liquidity and
marketability of the product or instrument and for which failure to satisfy customer
expectations in a commercially reasonable manner would likely cause material
reputational
damage to the institution or otherwise impair ongoing viability.
68. Some of these contingent funding obligations are explicitly contingent upon a credit
or other event which is not always related to the liquidity events simulated in the stress
scenario, but may nevertheless have the potential to cause significant liquidity drains in
times
of stress. For this standard, each supervisor and bank should consider which of these
“other
contingent funding liabilities” may materialise under the assumed stress events. The
potential
liquidity exposures to these contingent funding obligations are to be treated as a
nationally
determined behavioral assumption where it is up to the supervisor and bank to
determine
whether and to what extent these contingent outflows are to be included in the liquidity
a
will, insurance policy, retirement plan, annuity, trust or other contract.
coverage ratio. All identified contractual and non-contractual contingent liabilities and
their
assumptions should be listed in detail on the template, along with their related triggers.
69. Other contingent funding obligations include products and instruments such as:
Unconditionally revocable "uncommitted" credit and liquidity facilities;
Guarantees;
Letters of credit;
Other trade finance instruments; and
Non-contractual obligations such as:
− Potential requests for debt repurchases of the bank's own debt or that of
related conduits, securities investment vehicles and other such financing
facilities;
− Structured products where customers anticipate ready marketability, such as
adjustable rate notes and variable rate demand notes (VRDNs);
− Managed funds that are marketed with the objective of maintaining a stable
value such as money market mutual funds or other types of stable value
collective investment funds etc.
For issuers with an affiliated dealer or market maker, there may be a need to include
an amount of the outstanding debt securities (unsecured and secured, term as well
as short term) having maturities greater than 30 days, to cover the potential
repurchase of such outstanding securities.
70. Other cash outflows – Any other contractual cash outflows should be captured in
this metric, such as principal and interest due and planned derivative payables. Outflows
related to operating costs, however, are not included in this standard.
Cash inflows
71. When considering its available cash inflows, the bank should only include
contractual inflows from outstanding exposures which are fully performing and for which
the
bank has no reason to expect a default within the 30-day time horizon. Banks should not
include inflows which are encumbered for other purposes, such as those which are tied
to
derivative contracts.
72. Banks and supervisors need to monitor the concentration of expected inflows across
wholesale counterparties in the context of their liquidity management in order to ensure
that
the liquidity position of banks is not overly dependent on the arrival of expected inflows
from
one or a limited number of wholesale counterparties.
(i) Retail inflows
73. This scenario assumes that banks will receive 100% of contractual inflows from
retail counterparties (any planned outflows needed to refinance outstanding loans should
be
reflected fully as outflows). When considering loan payments, the bank should only
include
inflows from fully performing loans.
(ii) Wholesale inflows
74. This scenario assumes that banks will receive 100% of all performing contractual
wholesale cash inflows (any planned outflows needed to refinance outstanding loans
should
be reflected fully as outflows).
(iii) Reverse repos and secured lending (0%, 100%)
75. Banks should assume that maturing reverse repurchase or securities lending
agreements secured by liquid assets will be rolled-over and will not give rise to any cash
inflows (0%). Banks are expected NOT to roll-over maturing reverse repurchase or
securities
lending agreements secured by illiquid assets, so can assume to receive back 100% of
the
cash related to those agreements. This treatment is symmetrical with the assumptions
outlined for secured lending in the outflows section.21
(iv) Lines of credit:
76. No lines of credit, liquidity facilities or other contingent funding facilities that the bank
holds at other institutions for its own purposes are assumed to be able to be drawn.
Such
facilities receive 0% meaning that this scenario does not consider inflows from
committed
credit facilities. This is to reflect the possibility that other banks may not be in a position
to
honour credit lines, or may decide to incur the legal and reputational risk involved in not
honouring the commitment, in order to conserve their own liquidity or reduce their
exposure
to that bank.
(v) Other cash inflows
77. Other cash inflows, such as planned contractual receivables from derivatives,
should be captured here. Cash inflows related to non-financial revenues are not taken
into
account in the calculation of the net cash outflows for the purposes of this standard.
II.2 Net stable funding ratio
1. Objective
78. To promote more medium and long-term funding of the assets and activities of
banking organisations, the Committee has developed the Net Stable Funding Ratio
(NSFR).
This metric establishes a minimum acceptable amount of stable funding based on the
liquidity characteristics of an institution’s assets and activities over a one year horizon.
This
standard is designed to act as a minimum enforcement mechanism to complement the
liquidity coverage ratio standard and reinforce other supervisory efforts by incenting
structural changes in the liquidity risk profiles of institutions away from short-term funding
mismatches and toward more stable, longer-term funding of assets and business
activities.
79. In particular, the NSFR standard is structured to ensure that investment banking
inventories, off-balance sheet exposures, securitisation pipelines and other assets and
activities are funded with at least a minimum amount of stable liabilities in relation to
their
21 As mentioned in footnote 18, to the extent an institution uses a “matched book” financing strategy, ie
transactions in which repurchase and reverse repurchase transactions exist, for such matched transactions
in
which i) the security on each transaction has the same unique identifier (eg ISIN number or CUSIP) and ii)
the
term of each transaction both fall within the 30-day time horizon, there will be no incremental net cash
outflow
requirement as these inflows and outflows are assumed to off-set each other.
liquidity risk profiles. The NSFR aims to limit over-reliance on wholesale funding during
times
of buoyant market liquidity and encourage better assessment of liquidity risk across all
onand
off-balance sheet items. In addition, the NSF approach would help to counterbalance the
cliff-effects of the liquidity coverage ratio and offset incentives for institutions to fund their
stock of liquid assets with short-term funds that mature just outside the supervisory
defined
horizon for that metric.
2. Definition of the metric
Available amount of stable funding > 100%
Required amount of stable funding
80. The NSF measure builds on traditional “net liquid asset” and “cash capital”
methodologies used widely by internationally active banking organisations, bank
analysts
and rating agencies. However, the proposed measure expands general industry
conventions
of these concepts to account for the potential liquidity risk of off-balance sheet (OBS)
exposures and various types of maturity mismatches involved in short-term secured
funding
of long-dated assets that traditional forms of these measures may ignore. The standard
provides a comprehensive measure of liquidity risk exposure that acknowledges recent
market difficulties, including the need to fund securities in trading inventories or
securitisation
pipelines in the face of illiquid markets. In computing the amount of assets that should be
backed by stable funding, the proposed methodology includes required amounts of
stable
funding for all illiquid assets and securities held, regardless of accounting treatment (eg
trading versus available-for-sale or held-to-maturity designations) and with constrained
assumptions regarding trading and securitisation inventory turnover. In effect, portions of
trading assets are required to be funded using stable funding sources based not on
assumed
execution turnover but on the relative liquidity characteristics of the positions held.
Additional
resources funded by stable sources are also allocated to support at least a small portion
of
the potential calls on liquidity arising from OBS commitments and contingencies.
81. The NSF standard is defined as a ratio of available amount of stable funding to a
required amount of stable funding. This ratio must be greater than 100%.22 “Stable
funding”
is defined as those types and amounts of equity and liability financing expected to be
reliable
sources of funds over a one-year time horizon under conditions of extended stress. The
amount of such funding required of a specific institution is a function of the liquidity
characteristics of various types of assets held, OBS contingent exposures incurred,
and/or
the activities pursued by the institution.
A. Definition of available stable funding
82. Available stable funding (ASF) is defined as the total amount of an institution’s: 1)
capital; 2) preferred stock with maturity of equal to or greater than one year; 3) liabilities
with
effective maturities of one year or greater; and 4) that portion of “stable” non-maturity
deposits and/or term deposits with maturities of less than one year that would be
expected to
stay with the institution for an extended period in an idiosyncratic stress event.
22 In addition, supervisors may use alternative levels of this NSF ratio as thresholds for potential supervisory
action.
83. The objective of the standard is to ensure stable funding on an ongoing, viable entity
basis, over one year in an extended firm-specific stress scenario where a bank
encounters,
and investors and customers become aware of:
A significant decline in profitability or solvency arising from heighted credit risk,
market risk or operational risk and/or other risk exposures;
A potential downgrade in a debt, counterparty credit or deposit rating by any
nationally recognised credit rating organisation; and/or;
A material event which calls into question the reputation or credit quality of the
institution.
84. For the purposes of this standard, extended borrowing from central bank lending
facilities outside regular open market operations are not considered in this ratio, in order
not
to create a reliance on the central bank as a source of funding.
85. The available amount of stable funding is calculated by first assigning the carrying
value of an institution’s equity and liabilities to one of five categories as presented in
Table 1
below. The amount assigned to each category is to be multiplied by an ASF factor and
the
total ASF is the sum of the weighted amounts.
86. Table 1 below summarises the components of each of the ASF categories and the
associated maximum ASF factor to be applied in calculating an institution’s total amount
of
available stable funding under the proposed standard.
Table 1
Components of Available Stable Funding and Associated ASF Factors
ASF Factor Components of ASF Category
100% The total amount of capital, including both Tier 1 and Tier 2 as defined in
existing global capital standards issued by the Committee.
The total amount of any preferred stock not included in Tier 2 that has an
effective maturity of one year or greater taking into account any explicit or
embedded options that would reduce the expected maturity to less than one
year.
The total amount of secured and unsecured borrowings and liabilities (including
term deposits) with effective maturities of one year or greater excluding any
instruments with explicit or embedded options that would reduce the expected
maturity to less than one year.
85% "Stable" non-maturity retail deposits and/or term retail deposits (as defined in
the LCR) with residual maturities of less than one year.
"Stable" unsecured wholesale funding, non-maturity deposits and/or term
deposits with a residual maturity of less than one year, provided by small
business customers (as defined in the LCR). This category consists of deposits
and other extensions of funds made by non-financial small business
23 Along the lines of the IRB approach in the capital framework, an SME is defined as a legal entity, sole
proprietorship or partnership where the reported sales for the consolidated group of which the firm is a part
is
less than €50 million. See Basel II’s paragraph 273.
customers23 of the borrowing institution that are generally considered as having
similar liquidity risk characteristics to retail accounts, provided the total
aggregated funding raised from one small business customer is less than €1
million24 (on a consolidated basis where applicable).25
70% "Less stable" (as defined in the LCR) non-maturity retail deposits and/or term
retail deposits with residual maturities of less than one year.
"Less stable" (as defined in the LCR) unsecured wholesale funding, nonmaturity
deposits and/or term deposits with a residual maturity of less than one
year, provided by small business customers (as defined above).
Less stable deposits, as outlined in the LCR and determined by each jurisdiction,
could include deposits which are not covered by effective deposit insurance, high
value-deposits, deposits of sophisticated or high net worth individuals and deposits
which can be withdrawn quickly (eg internet deposits) and foreign currency
deposits.
50% Unsecured wholesale funding, non-maturity deposits and/or term deposits with
a residual maturity of less than one year, provided by non-financial corporate
customers.
0% All other liabilities and equity categories not included in the above categories.
B. Definition of required stable funding for assets and off-balance sheet exposures.
87. The amount of stable funding required by supervisors is to be measured using
supervisory assumptions on the broad characteristics of the liquidity risk profiles of an
institution’s assets, off-balance sheet exposures and other selected activities. The
required
amount of stable funding is calculated as the sum of the value of the assets held and
funded
by the institution, multiplied by a specific required stable funding (RSF) factor assigned
to
each particular asset type, added to the amount of OBS activity (or potential liquidity
exposure) multiplied by its associated RSF factor. The RSF factor applied to the
reported
values of each asset or OBS exposure is the amount of that item that supervisors
believe
should be supported with stable funding. Assets that are more liquid and more readily
available to act as a source of extended liquidity in the stressed environment identified
above
receive lower RSF factors (and require less stable funding) than assets considered less
liquid in such circumstances and, therefore, require more stable funding.
88. The RSF factors assigned to various types of assets are parameters intended to
approximate the amount of a particular asset that could not be monetised through sale
or
use as collateral in a secured borrowing on an extended basis during a liquidity event
lasting
24 In accordance with paragraph 231 of the Basel II Framework.
25 “Aggregated funding” means the gross amount (ie not taking any form of credit extended to the legal
entity into
account) of all forms of funding (eg deposits or debt securities for which the counterpart is known to be a
small
business customer). In addition, “from one small business customer” means one or several legal entities that
may be considered as a single creditor (eg in the case of a small business that is affiliated to another small
business, the limit would apply to the bank’s funding received from both businesses).
In the above bullets, “stable” deposits refer to deposits which are covered by an effective deposit insurance
scheme and where:
- the depositors have other relationships with the bank which make deposit withdrawal highly unlikely;
or
- the deposits are in transactional accounts (eg accounts where salaries are automatically credited).
An effective deposit insurance scheme refers to one which is in effect and guarantees that it has the ability
to
make prompt payouts.
one year. Under this standard such amounts are expected to be supported by stable
funding.
Except for “repo-like” transactions as defined in existing global capital standards issued
by
the Committee, all encumbered assets would also be expected to be fully supported by
stable funding.26
89. Table 2 briefly summarises the specific types of assets to be assigned to each asset
category and their associated RSF factor. Annex 2 fully outlines the assets in each
category
and should be used by banks in conducting the NSFR.
Table 2
Summary Composition of Asset Categories and Associated RSF Factors
(see Annex 2 for full description)
Summary Composition of Asset Categories RSF Factor
Cash, money market instruments
Securities with effective remaining maturities of less than one year
Outstanding loans to financial entities having effective maturities of less
than one year.
0%
Unencumbered marketable securities with residual maturities ≥ one year
representing claims on sovereigns, central banks, BIS, IMF, EC, noncentral
government PSEs or multilateral development banks which are
rated AA or higher and are assigned a 0% risk weight under the Basel II
standardised approach, provided that active repo-markets exist for these
securities.
5%
Unencumbered corporate bonds (or covered bonds) rated at least AA with
an effective maturity of ≥ one year which are traded in deep, active and
liquid markets and which also have a demonstrated history of being a
reliable liquidity source in a stressed market environment.
20%
Gold
Unencumbered equity securities listed on a major exchange and included
in a large capital market index and unencumbered corporate bonds (or
covered bonds) rated AA- to A- with an effective maturity of ≥ one year,
which are traded in deep, active and liquid markets and which also have a
demonstrated history of being a reliable liquidity source in a stressed
market environment.
Loans to non-financial corporate clients having a residual maturity of less
than one year.
50%
Loans to retail clients having a residual maturity of less than one year. 85%
All other assets. 100%
26 Encumbered assets include those posted as collateral for derivatives transactions.
90. Many potential OBS liquidity exposures entail little direct or immediate funding but
can lead to significant liquidity drains in times of market or idiosyncratic stress. As a
result,
the application of an RSF factor to various OBS activities results in a requirement for the
institution to establish a “reserve” of stable funding that would be expected to fund
existing
assets that might not otherwise be funded with “stable’ funds as defined in other parts of
this
standard. While funds are indeed fungible within a financial institution, this requirement
could
be viewed as promoting the stable funding of the stock of liquid assets that could be
used to
meet liquidity requirements arising from OBS contingencies in times of stress.
91. Consistent with the LCR, the NSF standard identifies OBS exposure categories
based broadly on whether the commitment is a credit or liquidity facility or some other
contingent funding liability. Table 3 identifies the specific types of off-balance sheet
exposures to be assigned to each OBS category and their associated RSF factor.
Table 3
Composition of Off-balance Sheet Categories and Associated RSF Factors
RSF Category RSF Factor
Conditionally revocable and irrevocable credit and liquidity facilities to retail clients
(natural persons) and legal entity customers (non-financial corporates (including
small businesses, sole proprietorships and partnerships)) and other legal entity
customers such as financial institutions (including banks, securities firms, insurance
companies, multilateral development banks etc.), fiduciaries,27 beneficiaries,28
conduits and special purpose vehicles, sovereigns and central banks, public sector
entities; affiliated entities of the bank and other entities not included in the categories
above)
10% of the
currently
undrawn portion
Other contingent funding obligations, including products and instruments such as:
Unconditionally revocable "uncommitted" credit and liquidity facilities;
Guarantees;
Letters of credit;
Other trade finance instruments; and
Non-contractual obligations such as:
– Potential requests for debt repurchases of the bank's own debt or that of
related conduits, securities investment vehicles and other such financing
facilities;
– Structured products where customers anticipate ready marketability, such
as adjustable rate notes and variable rate demand notes (VRDNs);
– Managed funds that are marketed with the objective of maintaining a
stable value such as money market mutual funds or other types of stable
value collective investment funds etc.
National
supervisors can
specify the RSF
factors based on
their national
circumstances.
a
will, insurance policy, retirement plan, annuity, trust or other contract.
III. Monitoring tools

92. In addition to the metrics outlined in Section II to be used as standards, the
Committee proposes that supervisors utilise the metrics outlined in this section as
consistent
monitoring tools. These metrics capture specific information related to a bank’s cash
flows,
balance sheet structure, available unencumbered collateral and certain market
indicators.
93. These metrics, together with the standards in Section II, provide the cornerstone of
information which aid supervisors in assessing the liquidity risk of a bank. In addition,
supervisors may need to supplement this framework by using additional tools and
metrics
tailored to help capture elements of liquidity risk specific to their jurisdictions. In utilising
these metrics, supervisors should take action when potential liquidity difficulties are
signalled
through a negative trend in the metrics, or when a deteriorating liquidity position is
identified,
or when the absolute result of the metric identifies a current or potential liquidity problem.
Examples of actions which supervisors can take are outlined in the Committee’s Sound
Principles (paragraphs 141-143).
94. The metrics discussed in this section include the following:
III.1 Contractual Maturity Mismatch
III.2 Concentration of funding
III.3 Available Unencumbered Assets
III.4 Market-related monitoring tools
III.1 Contractual Maturity Mismatch
1. Objective
95. The contractual maturity mismatch profile identifies the gaps between the
contractual inflows and outflows of liquidity for defined time bands. These maturity gaps
indicate how much liquidity a bank would potentially need to raise in each of these time
bands if all flows occurred at the earliest possible date. This metric provides insight into
the
extent to which the bank relies on maturity transformation under its current contracts.
2. Definition and practical application of the metric
Contractual cash and security inflows and outflows from all on- and off-balance sheet
items, mapped to defined time bands based on their respective maturities.
96. A bank should report contractual cash and security flows in the relevant time bands
based on their residual contractual maturity. Supervisors in each jurisdiction will
determine
the specific template, including required time bands, by which data must be reported. At
a
minimum, the data collected from the contractual maturity mismatch should provide data
on
the categories and timeframes outlined in the Liquidity Coverage Ratio and Net Stable
Funding Ratio. Supervisors should define the time buckets so as to be able to
understand
the bank’s cash flow position. Possibilities include requesting the cash flow mismatch to
be
constructed for the overnight, 7 day, 14 day, 1, 2, 3 and 6 months, 1, 3, 5 and beyond 5
years buckets.
Contractual cashflow assumptions
97. Asset flows should be reported according to their latest possible maturity. Liability
cash flows should be reported according to their earliest possible date of outflow.
Contractual
cash flows related to any open-maturity, callable, puttable or extendable issuance should
be
analysed based on the earliest possible repayment date. Instruments that have no
specific
maturity should be reported separately, with details on the instruments, with no
assumptions
applied as to when maturity occurs.
98. Any flows or balances between entities included within the scope of the schedule
should be eliminated in accordance with generally accepted accounting principles. No
rollover of existing liabilities is assumed to take place. For assets, the bank is assumed
not to
enter into any new contracts.
99. It should be assumed that penalty clauses do not deter creditors from withdrawing
their funds. Contingent liability exposures that would require a change in the state of the
world (such as contracts with triggers based on a change in prices of financial
instruments or
a downgrade in the bank's credit rating) need to be detailed, grouped by what would
trigger
the liability, with the respective exposures clearly identified.
3. Utilisation of the metric
100. The banks will provide the raw data to the supervisors, with no assumptions
included in the data. Standardised contractual data submission by banks enables
supervisors to build a market-wide view and identify market outliers vis–a-vis liquidity.
101. Given that the metric is based solely on contractual maturities with no behavioural
assumptions, the data will not reflect actual future forecasted flows under the current, or
future, strategy or plans, ie, under a going-concern view. Also, contractual maturity
mismatches do not capture outflows which a bank may make in order to protect its
franchise,
even where contractually there is no obligation to do so. For analysis, supervisors can
apply
their own assumptions to reflect alternative behavioural responses in reviewing maturity
gaps.
102. As outlined in the Principles for Sound Liquidity Risk Management and Supervision,
banks should also conduct their own maturity mismatch analyses, based on going-
concern
behavioural assumptions of the inflows and outflows of funds in both normal situations
and
under stress. These analyses should be based on strategic and business plans and
should
be shared and discussed with supervisors, and the data provided in the contractual
maturity
mismatch should be utilised as a basis of comparison. When firms are contemplating
material changes to their business models, it is crucial for supervisors to request
projected
mismatch reports as part of an assessment of impact of such changes to prudential
supervision. Examples of such changes include potential major acquisitions or mergers
or
the launch of new products which have not yet been contractually entered into. In
assessing
such data supervisors need to be mindful of assumptions underpinning the projected
mismatches and whether they are prudent.
103. Banks should be able to indicate how they plan to bridge any identified gaps in their
internally generated maturity mismatches and explain why the assumptions applied differ
from the contractual terms. The supervisor should challenge these explanations and
assess
the feasibility of the banks’ funding plans.
III.2 Concentration of funding
1. Objective
104. This metric is meant to identify those sources of wholesale funding which are of
such significance that withdrawal of this funding could trigger liquidity problems. The
metric
thus encourages the diversification of funding sources recommended in the Committee’s
Sound Principles.
A. Funding liabilities sourced from each significant counterparty
The bank's balance sheet total
B. Funding liabilities sourced from each significant product/instrument
The bank's balance sheet total
C. List of asset and liability amounts by significant currency
Calculation of the metric
105. The numerator is determined by examining funding concentrations by counterparty
or type of instrument/product. Banks and supervisors should monitor both the absolute
percentage of the funding exposure, as well as significant increases in concentrations.
A. Significant counterparties
106. The numerator for counterparties is calculated by aggregating the total of all types
of
deposits (or similar funding) from a single counterparty or group of connected or
affiliated
counterparties, as well as all other direct borrowings, both secured and unsecured,
which the
bank can determine arise from the same counterparty29 (such as for overnight CP/CD
funding).
107. A “significant counterparty” is defined as a single counterparty or group of
connected
or affiliated counterparties accounting in aggregate for more than 1% of the bank's total
liabilities, although in some cases there may be other defining characteristics based on
the
funding profile of the bank. A group of connected counterparties is, in this context,
defined in
the same way as in the “Large Exposure” regulation (of the host country in case of
consolidated reporting) for solvency purposes. Intra-group deposits and deposits from
related
parties should be identified specifically under this metric, regardless of whether the
metric is
being calculated at a legal entity or group level, due to the potential limitations to intra-
group
transactions in stressed conditions.
B. Significant instrument / product
108. The numerator for type of instrument/product should be calculated for each
individually significant funding instruments/products, as well as by calculating groups of
similar types of instruments/products.
29 For some funding sources, such as debt issues that are transferable across counterparties (such as
CP/CD
funding dated longer than overnight, etc), it is not always possible to identify the counterparty holding the
debt.
109. A “significant instrument/product” is defined as a single instrument/product or group
of similar instruments/products which in aggregate amount to more than 1% of the
bank's
total liabilities.
C. Significant currencies
110. In order to capture the amount of structural currency mismatch in a bank’s assets
and liabilities, banks are required to provide a list of the amount of assets and liabilities
in
each significant currency.
111. A “significant currency” is defined as liabilities denominated in a single currency,
which in aggregate amount to more than 1% of the bank's total liabilities.
Time buckets
112. The above metrics should be reported separately for the time horizons of less than
one month, 1-3 months, 3-6 months, 6-12 months, and for longer than 12 months.
113. In utilising this metric to determine the extent of funding concentration to a certain
counterparty, both the bank and supervisors must recognise that currently it is not
possible to
identify the actual funding counterparty for many types of debt.30 The actual
concentration of
funding sources, therefore, could likely be higher than this metric indicates. The list of
significant counterparties could change frequently, particularly during a crisis.
Supervisors
should consider the potential for herding behaviour on the part of funding counterparties
in
the case of an institution-specific problem. In addition, under market-wide stress,
multiple
funding counterparties and the bank itself may experience concurrent liquidity pressures,
making it difficult to sustain funding, even if sources appear well diversified.
114. In interpreting this metric, one must recognise that the existence of bilateral funding
transactions may affect the strength of commercial ties and the amount of the net
outflow.31
115. These metrics do not indicate how difficult it would be to replace funding from any
given source.
116. To capture potential foreign exchange risks, the comparison of the amount of
assets
and liabilities by currency will provide supervisors with a baseline for discussions with
the
banks to discuss how the bank manages any currency mismatches, through swaps,
forwards, etc. It is meant to provide a base for further discussions with the bank rather
than
to provide a snapshot view of the potential risk.
30 For some funding sources, such as debt issues that are transferable across counterparties (such as
CP/CD
funding dated longer than overnight, etc), it is not always possible to identify the counterparty holding the
debt.
31 Eg where the monitored institution also extends funding or has large unused credit lines outstanding to the
"significant counterparty.”
III.3 Available unencumbered assets
1. Objective
117. This metric provides supervisors with data on the quantity and key characteristics,
including currency denomination and location, of banks’ available unencumbered assets.
These assets may potentially be used as collateral to raise additional secured funding in
secondary markets and/or eligible at central banks and as such may potentially be
additional
sources of liquidity for the bank.
Available unencumbered assets that are marketable as collateral in secondary
markets and/or eligible for central banks’ standing facilities
118. Banks are to report the amount, type and location of available unencumbered
assets
that could serve as collateral for secured borrowing in secondary markets at prearranged
or
current haircuts at reasonable costs. Likewise, banks should report the amount, type,
and
location of available unencumbered assets that are eligible for secured financing with
relevant central banks at prearranged (if available) or current haircuts at reasonable
costs,
for standing facilities only (ie, excluding emergency assistance arrangements).This
would
include collateral that has already been accepted at the central bank but remains
unused.
For assets to be counted in this metric, the bank must have already put in place the
operational procedures that would be needed to monetise the collateral.
119. In addition to providing the total amounts available, banks should also report these
items categorised by significant currency. “Significant currency” is defined as available
unencumbered collateral denominated in a single currency which in aggregate amounts
to
more than 1% of the associated total amount of available unencumbered collateral (for
secondary markets and/or central banks).
120. In addition, banks must report the estimated haircut that the secondary market
and/or relevant central bank would require for each asset. In the case of the latter, a
bank
would be expected to reference, under business as usual, the central bank haircuts
which it
would normally access (which likely involves matching funding currency – ie, ECB for
Eurodenominated
funding, Bank of Japan for Yen funding, etc).
121. As a second step after reporting the relevant haircuts, banks should report the
expected monetised value of the collateral (rather than the notional amount) and where
the
assets are actually held, in terms of where in the world the assets are and what business
lines have access to those assets.
122. The metric does not capture potential changes in counterparties’ haircuts and
lending policies that could occur under either a systemic or idiosyncratic event and could
provide a false comfort that the estimated monetised value of available unencumbered
collateral is greater than it would be when it is most needed. Supervisors should keep in
mind that this metric does not compare available unencumbered assets to the amount of
outstanding secured funding or any other balance sheet scaling factor. To gain a more
complete picture, the information generated by this metric should be complemented with
the
maturity mismatch metric and other balance-sheet data.
III.4 Market-related monitoring tools
1. Objective
123. High frequency market data with little or no time lag can be used as early warning
indicators in monitoring potential liquidity difficulties at banks.
124. While there are many types of data available in the market, supervisors can monitor
data at the following levels to focus on potential liquidity difficulties:
A. Market-wide information
B. Information on the financial sector
C. Bank-specific information
A. Market-wide information
125. Supervisors can monitor information both on the absolute level and direction of
major markets and consider their potential impact on the financial sector and the specific
bank. Market-wide information is also crucial when evaluating assumptions behind a
bank’s
funding plan.
126. Valuable market information to monitor includes, but is not limited to, equity prices
(ie overall stock markets and sub-indices in various jurisdictions relevant to the activities
of
the supervised banks), debt markets (money markets, medium-term notes, long term
debt,
derivatives, government bond markets, credit default spread indices, etc); foreign
exchange
markets, commodities markets, and indices related to specific products, such as for
certain
securitised products (eg the ABX).
B. Information on the financial sector
127. To track whether the financial sector as a whole is mirroring broader market
movements or is experiencing difficulties, information to be monitored includes equity
and
debt market information for the financial sector broadly and for specific subsets of the
financial sector, including indices.
C. Bank-specific information
128. To monitor whether the market is losing confidence in a particular institution or has
identified risks at an institution, it is useful to collect information on equity prices, CDS
spreads, money-market trading prices, the situation of roll-overs and prices for various
lengths of funding, the price/yield of bank debenture and/or subordinated debt in the
secondary market.
3. Utilisation of the metric/data
129. Information such as equity prices and credit spreads are readily available, however,
the accurate interpretation of such information is important. For instance, the same CDS
spread in numerical terms may not necessarily imply the same risk across markets due
to
market-specific conditions such as low market liquidity. Also, when considering the
liquidity
impact of changes in certain data points, the reaction of other market participants to
such
information can be different, as various liquidity providers may emphasise different types
of
data.
IV. Application issues for standards and monitoring tools

130. This section outlines a number of issues related to the application of the proposed
standards and monitoring tools. These issues include the frequency with which banks
calculate and report the metrics, the scope of application of the metrics (whether apply at
group and/or entity level and to foreign bank branches), the aggregation of currencies
within
the metrics, and the amount of public disclosure for both standards and monitoring tools.
1. Frequency of calculation and reporting
131. Metrics should be used on an ongoing basis to help monitor and control liquidity
risk.
Banks are expected to meet the requirements of the standards continuously.
132. The metrics should be calculated and reported at least monthly, with the
operational
capacity to increase the frequency to weekly or even daily in stressed situations to the
discretion of the supervisor. The time lag in reporting should be as short as feasible and
ideally should not surpass two weeks.
2. Scope of application
133. The proposed standards and monitoring tools should be applied to all
internationally
active banks on a consolidated basis, but may be used for other banks and on any
subset of
entities of internationally active banks as well to ensure greater consistency and a level
playing field between domestic and cross-border banks. The standards should be
applied
consistently wherever they are applied. When applied on a legal entity basis, affiliated
entities should be treated no differently than unrelated third party financial institutions.
3. Currencies
134. While the standards are expected to be met on a consolidated basis and reported
in
a common currency, supervisors and banks should also be aware of the liquidity needs
in
each significant currency. As indicated in the LCR, the currencies of the pool of liquid
assets
should be similar in composition to the operational needs of the bank. Banks and
supervisors
cannot assume that currencies will remain transferable in a stress, even for currencies
which
in normal times are highly convertible.
4. Public disclosure
135. Information on the metrics, particularly on the standards, should be transparent and
be publicly disclosed. Required disclosure for the standards will be similar to the
disclosure
of capital positions, regarding the elements to disclose and the level of granularity.
Information to disclose includes the value and level of the metrics, the size and
composition
of the components of the metrics, and the drivers behind the metrics. Qualitative
information
could support the numerical information given.
Annex 1
Illustrative Template for the Liquidity Coverage Ratio
Item Factor (to be multiplied against
total amount)
Total
amount
With factor
applied
Stock of high quality liquid assets
Cash 100%
Qualifying marketable securities from
sovereigns, central banks, public
sector entities, and multi-lateral
development banks
100%
Qualifying central bank receivables 100%
Domestic sovereign or central bank
debt in domestic currency
100%
In addition, the Committee will gather
data on the following instruments to
analyse the impact of this standard on
the financial sector:
Qualifying corporate bonds rated AA
or higher
Qualifying corporate bonds rated Ato
AAQualifying
covered bonds rated AA or
higher
Qualifying covered bonds rated A- to
AA-
80%
60%
80%
60%
Total value of stock of highly liquid
assets
Cash Outflows
Retail deposits:
- stable deposits minimum 7.5%
- less stable retail deposits [additional
categories to be determined by
jurisdiction]
minimum 15%
Unsecured wholesale funding:
- Stable, small business customers minimum 7.5%
- Less stable, small business
customers
[additional categories to be
determined by jurisdiction]
minimum 15%
- non-financial corporates,
no operational relationship
75%
- non-financial corporates,
sovereigns, central banks and public
sector entities with operational
relationships
25% of deposits needed for operational
purposes
- other legal entity customers and
sovereigns, central banks, and PSEs
without operational relationships
100%
Secured funding:
Funding from repo of illiquid assets
and securities lending/borrowing
transactions illiquid assets are lent
out
100%
Additional requirements
Liabilities related to derivative
collateral calls related to a downgrade
of up to 3-notches
100% of collateral that would be required
to cover the contracts in case of up to a
3-notch downgrade
Market valuation changes on
derivatives transactions
Amount should be nationally determined
[as relevant to specific banks]
Valuation changes on posted noncash
or non-high quality sovereign
debt collateral securing derivative
transactions
20%
ABCP, SIVs, Conduits, etc:
- Liabilities from maturing ABCP,
SIVs, SPVs, etc
100% of maturing amounts and 100% of
returnable assets
Term Asset Backed Securities
(including covered bonds)
100% of maturing amounts
Currently undrawn portion of
committed credit and liquidity facilities
to:
- retail clients 10% of outstanding lines
- non-financial corporates; credit
facilities
10% of outstanding lines
- non-financial corporates; liquidity
facilities
100% of outstanding lines
-- other legal entity customers 100% of outstanding lines
Other contingent funding liabilities
(such as guarantees, letters of credit,
revocable credit and liquidity facilities
etc)
Determined by supervisors, specific to
needs at certain banks.
Planned outflows related to renewal
or extension of new loans (retail or
wholesale)
100%
Any other cash outflows (including
planned derivative payables)
Total cash outflows
Cash Inflows
Amounts receivable from retail
counterparties
100% of planned inflows from
performing assets
Amounts receivable from wholesale
counterparties
100% of planned inflows from
performing wholesale customers
Receivables in respect of repo and
reverse repo transactions backed by
illiquid assets and securities
lending/borrowing transactions where
illiquid assets are borrowed.
100%
Other cash inflows
Total cash inflows
Net cash outflows (= Total cash
outflows minus Total cash inflows)
Liquidity coverage ratio (= Total
value of stock of high quality liquid
assets / Net cash outflows)
Annex 2
Full Explanation for Required Stable Funding Categories
Detailed Composition of Asset Categories and Associated Required Stable Funding
Factors
Components of RSF Category RSF Factor
All cash immediately available to meet obligations not held for operational
purposes, not currently encumbered as collateral and not held for planned use
as contingent collateral.
All short-term unsecured instruments and transactions with outstanding
maturities of less than one year.32
All securities with stated remaining maturities of less than one year with no
embedded options that would increase the expected maturity to more than one
year.
All securities held where the institution has an offsetting reverse repurchase
transaction when the security on each transaction has the same unique
identifier (eg ISIN number or CUSIP)
All loans to financial entities with effective maturities of less than one year that
are not renewable and for which the lender has an irrevocable right to call.
When the loan is secured, the underlying collateral must have a maturity of
less than one year.
0%
Unencumbered marketable securities with residual maturities one year or
greater representing claims on or claims guaranteed by sovereigns, central
banks, BIS, IMF, EC, non-central government public sector entities (PSEs) or
multilateral development banks which are rated AA or higher and are assigned
a 0% risk-weight under the Basel II standardised approach, provided that
active repo-markets exist for these securities.
5%
Unencumbered corporate bonds33 or covered bonds34 satisfying all of the
following conditions:
− Central bank eligibility for intraday liquidity needs or overnight liquidity
shortages in relevant jurisdictions.35
− Not issued by a bank, investment or insurance or financial services firm.
− Not issued by the respective firm itself.
− Low credit risk: assets have a credit assessment by a recognised ECAI of at
least AA, or do not have a credit assessment by a recognised ECAI and are
internally rated as having a PD equivalent to that corresponding to a credit
assessment of AA
− Proven record as a reliable source of liquidity in the markets (repo and sale)
even during stressed market conditions: ie maximum price change or
increase in haircut over a 30-day period during the last 10 years or during a
20%
32 Such instruments include but are not limited to: short-term government and corporate bills notes and
obligations; commercial paper; negotiable certificates of deposits; reserves with central banks and sale
transactions of such funds (eg fed funds sold); bankers acceptances; money market mutual funds.
relevant period of significant liquidity stress not exceeding 10%.
− Traded in large, deep and active markets characterised by a low level of
concentration. The bid-ask-yield spread has not exceeded 40 bsp during
the last 10 years or during a relevant period of significant liquidity stress.
Unencumbered gold, corporate bonds, covered bonds, and equity securities
that satisfy all of the following conditions:
− Central bank eligibility for intraday liquidity needs or overnight liquidity
shortages in relevant jurisdictions.36
− Not issued by a bank, investment, insurance, or financial services firm
(except in the case of covered bonds).
− Not issued by the respective firm itself.
− Low credit risk: assets have a credit assessment by a recognised ECAI of at
least A-, or do not have a credit assessment by a recognised ECAI and are
internally rated as having a PD corresponding to a credit assessment of A- .
concentration. The bid-ask-yield spread has not exceeded 50 bsp during
the last 10 years or during a relevant period of significant liquidity stress.
− Listed on a recognised exchange and included in a large cap market index.
All assets held in the trading book that are not securities or loans that satisfy all
of the following conditions.
− The instrument’s fair value can be determined based on inputs that are
quoted prices (unadjusted) in active markets for identical assets at the
measurement date.
concentration. The bid-ask-spread has not exceeded 50 bsp during the last
10 years or during a relevant period of significant liquidity stress.
− Listed on a recognised exchange in multiple time zones and included in a
main index.
Loans to non-financial corporate clients having a maturity of less than one
year.
50%
Loans to retail clients (ie natural persons) having a maturity of less than one
year.
85%
All other assets not included in the above categories. 100%
33 Corporate bonds are plain vanilla assets whose valuation is easy and standard and does not depend on
private knowledge, ie no complex structured products, no subordinated debt.
34 Covered bonds are bonds issued and owned by a bank and subject by law to special public supervision
designed to protect bond holders. Sums deriving from the issue of these bonds must be invested in
conformity
with the law in assets which, during the whole period of the validity of the bonds, are capable of covering
claims attaching to the bonds and which, in the event of failure of the issuer, would be used on a priority
basis
for the reimbursement of the principal and payment of the accrued instrument.
35 Central bank eligibility: This is an optional criterion for jurisdictions whose list of central bank eligible
assets
is only very narrowly defined. In those jurisdictions, the relevant supervisors may exercise discretion to allow
non-central bank eligible corporate bonds provided that they meet the other respective criteria above.
36 Central bank eligibility: This is an optional criterion for jurisdictions whose list of central bank eligible
assets
is only confined to tier 1 assets. In those jurisdictions, the relevant supervisors may exercise discretion to
allow non-central bank eligible corporate bonds provided that they meet the other respective criteria
Annex 3
Summary of Net Stable Funding Ratio
Available Stable Funding (Sources) Required Stable Funding (Uses)
Item Availability
Factor
Item Required
Factor
Tier 1 & 2 Capital Instruments
Other preferred shares and capital
instruments in excess of Tier 2
allowable amount having an effective
maturity of one year or greater
Other liabilities with an effective
maturity of 1 year or greater
100%
Cash
Short-term unsecured activelytraded
instruments (< 1 yr)
Securities with exactly offsetting
reverse repo
Securities with remaining maturity
< 1 yr
Non-renewable loans to financials
with remaining maturity < 1 yr
0%
Stable deposits of retail and
small business customers (nonmaturity
or residual maturity < 1yr)
85%
Debt issued or guaranteed by
sovereigns, central banks, BIS, IMF,
EC, non-central government,
multilateral development banks
5%
Less stable deposits of retail and
small business customers
(non-maturity or residual
maturity < 1yr)
70%
Unencumbered non-financial senior
unsecured corporate bonds (or
covered bonds) rated at least AA,
maturity ≥ 1 yr
20%
Wholesale funding provided by nonfinancial
corporate customers (nonmaturity
or residual maturity < 1yr)
50%
Unencumbered listed equity
securities or non-financial senior
unsecured corporate bonds (or
covered bonds) rated at least A-,
maturity ≥ 1 yr
Gold
Loans to non-financial corporate
clients having a maturity < 1 yr
50%
All other liabilities and equity not
included above 0% Loans to retail clients having a
maturity < 1 yr 85%
All other assets 100%
Off Balance Sheet Exposures
Undrawn amount of committed credit
and liquidity facilities 10%
Other contingent obligations
National
Supervisory
• Discretion

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Basel Committee

Liquidity Risk: Management and Supervisory Challenges

Liquidity Risk: Management and Supervisory Challenges 1

Liquidity Risk: Management and Supervisory Challenges

List of members of the

International Framework for Liquidity Risk Measurement, Standards and Monitoring 1

II. Regulatory standards

III. Monitoring tools

IV. Application issues for standards and monitoring tools

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