Basel III: The Liquidity Coverage Ratio and liquidity risk monitoring tools

how to find liquidity ratio

The Basel Committee has issued the full text of the revised Liquidity Coverage Ratio (LCR) following endorsement on 6 January 2013 by its governing body - the Group of Central Bank Governors and Heads of Supervision (GHOS). The LCR is an essential component of the Basel III reforms, which are global regulatory standards on bank capital adequacy and liquidity endorsed by the G20 Leaders.

The LCR is one of the Basel Committee's key reforms to strengthen global capital and liquidity regulations with the goal of promoting a more resilient banking sector. The LCR promotes the short-term resilience of a bank's liquidity risk profile. It does this by ensuring that a bank has an adequate stock of unencumbered high-quality liquid assets (HQLA) that can be converted into cash easily and immediately in private markets to meet its liquidity needs for a 30 calendar day liquidity stress scenario. It will improve the banking sector's ability to absorb shocks arising from financial and economic stress, whatever the source, thus reducing the risk of spillover from the financial sector to the real economy.

The LCR was first published in December 2010. At that time, the Basel Committee put in place a rigorous process to review the standard and its implications for financial markets, credit extension and economic growth. It committed to address unintended consequences as necessary.

The revisions to the LCR incorporate amendments to

the definition of high-quality liquid assets (HQLA) and net cash outflows. In addition, the Basel Committee has agreed a revised timetable for phase-in of the standard and additional text to give effect to the Committee's intention for the stock of liquid assets to be used in times of stress. The changes to the definition of the LCR, developed and agreed by the Basel Committee over the past two years, include an expansion in the range of assets eligible as HQLA and some refinements to the assumed inflow and outflow rates to better reflect actual experience in times of stress.

Once the LCR has been fully implemented, its 100% threshold will be a minimum requirement in normal times. During a period of stress, banks would be expected to use their pool of liquid assets, thereby temporarily falling below the minimum requirement. The GHOS agreed that the LCR should be subject to phase-in arrangements which align with those that apply to the Basel III capital adequacy requirements.

Specifically, the LCR will be introduced as planned on 1 January 2015, but the minimum requirement will begin at 60%, rising in equal annual steps of 10 percentage points to reach 100% on 1 January 2019. This graduated approach is designed to ensure that the LCR can be introduced without disruption to the orderly strengthening of banking systems or the ongoing financing of economic activity.

Source: www.bis.org

Category: Bank

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