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Who will manage banks' liquidity risk in the Basel III world?

David Millar, an advisory board member of the Risk and Regulation Working Group, sparks off a debate on whether the responsibility for managing liquidity risk at a bank should stay with the treasury.

February 28, 2011 | Aditya Puri

While liquidity risk management is now firmly within the scope of Basel III and will impact risk management, asset and capital considerations for banks and other financial institutions,  it remains unclear how banks will include liquidity risk in their existing risk management framework.

Liquidity management is both a very old and a very new concern for banks. There have always been roles in banks, usually in the treasury department, with the responsibility for ensuring that attention is paid to liquidity. For the long term, the asset and liability management (ALM) committee (ALCO) concerns itself with looking at the long term liabilities, usually in excess of one year, and ensures that the balance between loans and deposits, premiums and claims, and, more recently, derivative trade resolutions, are maintained and that there are no significant problems with satisfying commitments. In the short term, the treasury manages short term liabilities, in particular those stemming from interbank, corporate and derivative liabilities.

Basel III introduces new approaches to this area as well as new reporting responsibilities: the Liquidity Coverage Ratio (LCR) for short-term reporting, and the Net Stable Funding Ratio (NSFR) with a time horizon of one year to provide a “sustainable maturity structure of assets and liabilities”. Both these ratios would normally fall into the areas managed by treasury, rather than the ALCO, and treasury is managed by the CFO.

But the risk management team, as managed by the CRO, is also heavily involved. Liquidity has to look at the level of encumbrance of all assets—but credit and market risk considerations also have to be taken into account.

While there is little doubt that treasury will manage liquidity (the movements of funds), it is unclear who will manage liquidity risk (the analysis of the ability to manage liquidity). Will this remain in treasury and result in a fragmented...

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Risk And Regulation Working Group

Keywords:Regulation, Liquidity Risk