Tuesday, August 2, 2011

BIS - International framework for liquidity risk measurement, standards and monitoring, December 2009

Response to Basel Committee on Banking
Supervision’s Consultative Document:
“International framework for liquidity risk measurement,standards and monitoring, December 2009”

World gold council

"...Abstract of BCBS proposals

The Basel Committee on Banking Supervision seeks to strengthen global liquidity risk management and supervision through two minimum global liquidity standards for internationally active banks: a 30 day liquidity coverage ratio (LCR) and a net stable funding ratio (NSFR)

• The LCR is designed to promote resilience to a shortterm sharp shock, such as that caused by a major credit downgrade. The ratio identifies the amount of unencumbered “high quality liquid assets” an institution holds that can be used to offset the net cash outflow it would experience under an acute shortterm stress scenario and should >100%. The BCBS is considering a narrow definition of “high quality liquid assets, comprising cash, central bank reserves and high quality sovereign paper, and a broader definition including high quality corporate bonds. The Committee describes four fundamental characteristics, four market-related characteristics and some operational requirements that it considers to define a “high quality liquid asset”.

• The NSF ratio is designed to incentivise banks to use more “stable” sources of funding. It is defined as the ratio of available stable funding to a required amount of stable funding, and must be >100%. “Stable” funding is defined as those types and amounts of equity and liability financing expected to be a reliable source of funds over a one-year time horizon under conditions of stress. The required amount of stable funding is calculated as the sum of the value of assets held and funded by the institution, multiplied by a specific required stable funding factor (RSF), added to a measure of off balance sheet activity. The RSF applied to each asset is the amount of that item that supervisors believe should be supported by stable funding. The report recommends, inter alia, that cash and money market instruments be given a 0% RSF, unencumbered corporate bonds rated at least AA with a maturity >1 year a 20% RSF and gold a 50% RSF.

• The BCBS have also been keen to highlight the importance of counter-cyclical capital; throughout their consultative document on strengthening the resilience of the banking sector 1 the benefits of avoiding procyclicality are set out. The Committee of European Banking Supervisors (CEBS) has also provided extensive discourse on the benefits of a countercyclical capital buffer..."

Gold comfortably conforms to the four fundamental and four-market related characteristics the BCBS used to assess whether an asset should be deemed a “high quality liquid asset”. Gold bears no credit risk, has negligible inflation and foreign exchange risk, and has relative low volatility in comparison to other commodities. Gold is uncorrelated with other assets, making it an effective diversifier. It is a counter-cyclical asset, often enjoying flight-toquality inflows during periods of financial distress. It was used as a “high quality liquid asset” during the height of the 2007/09 financial crisis, when many fund managers sold gold to raise the cash necessary to meet margin calls and pay redemptions. This was a time when money markets were effectively shut and other assets could only be liquidated at firesale prices. Central banks have long held gold in their reserves in recognition of the unique qualities that gold possesses. The proposed changes to international capital requirements should allow financial institutions to reap the same benefits...."

Source: http://www.bis.org/publ/bcbs165/worldgoldcounci.pdf

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