Could the banks cope with large deposit outflows? Assessment according to a new liquidity metric

Liquidity risk and regulations

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Liquidity risk and regulations

Two international liquidity metrics

Published: 9 May 2022

There are two international liquidity metrics that set requirements for a bank’s liquidity risk – LCR and NSFR. The first, LCR, is a ratio that shows a bank’s liquid assets in relation to its net cash outflow over 30 days.[9] See Basel Committee on Banking Supervision (2013). The cash outflows assume a scenario in which both the bank and market are in a state of stress.

LCR must be at least 100 per cent, which means that the liquid assets can cover a net cash outflow for 30 days in stressed conditions. The purpose of the metric is thus to give the banks a certain amount of time (30 days) if stress emerges, to implement more long-term measures for their survival. The central banks also get time to implement any necessary changes to their frameworks. The purpose is not fully served through LCR, however, because the metric does not take account of the state of liquidity flows during the period up to day 30 – only their cumulative state on day 30.

The other metric, NSFR, is a ratio that relates a bank's available stable funding to their required stable funding.[10] See Basel Committee on Banking Supervision (2014). Available stable funding is chiefly defined as liabilities with maturities of more than one year, stable deposits and equity. Required stable funding is primarily determined by the size of the bank’s assets with maturities of more than one year and that are not considered liquid according to LCR, such as mortgages. NSFR has the purpose of providing banks with sufficient long-term stable funding to avoid funding problems in the event of a protracted crisis.

Both LCR and NSFR have been implemented in the EU with a minimum requirement of 100 per cent each. Because both metrics focus on a certain time bucket (30 days and one year) there is a risk of high liquidity risks emerging in another time bucket. To look into this, we have studied the banks’ contractual cash flows. The results are presented in the next section, in which we also present a new liquidity metric based on these cash flows.