An Introduction to Banking, 2nd Edition

Chapter 11BUSINESS BEST‐PRACTICE BANK INTERNAL FUNDS TRANSFER PRICING POLICY

Internal bank funds pricing or “FTP” is a key element in liquidity risk management. It is also a devil of a topic to teach, because there is no “one size fits all” and different banks set different objectives for it. As befits what should be viewed as a key pillar of the liquidity risk management framework, but is as often as not treated as an internal accounting exercise, there are many nuances and the FTP process can be as frustrating to implement and monitor as it is to set policy for. That said, an inappropriate or artificial internal funds pricing policy may lead to poor business decision‐making, and could generate excessive liquidity and funding risk exposure. It is therefore imperative for banks to operate a robust and disciplined internal funding mechanism, one that is integrated into the overall liquidity risk management framework.

In this chapter we review the rationale behind the internal term liquidity premium (TLP) and present a recommended best‐practice policy template for internal funds pricing.

BACKGROUND

Bank internal funds pricing mechanism – called variously funds transfer pricing (FTP), firm liquidity pricing (FLP), liquidity transfer pricing (LTP), or term liquidity premium (TLP), although these terms are not actually synonymous – is invariably operated via the Treasury function. This is logical given that all banks operate essentially the same internal funding arrangement, as ...