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Asset and Liability Management: The Banker’s Guide to Value Creation and Risk Control, Second Edition by Youssef F. Bissada, Jean Dermine

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2. Profit centre level

The ROE objective is relevant for the corporation as a whole. However, to make it operational, banks are setting corporate goals for profit centres, such as economic value added or economic profit.

Economic profit = (profit allocated) – (allocated equity × cost of equity) > 0

Three technical issues arise in the calculation:

  1. Fund transfer price for deposits and loans: matched-maturity market rate. The bank must send the relevant signal to the managers collecting deposits or granting loans.

  2. Equity allocation: regulatory capital vs. economic (risk-based) capital. As a manager, you will prefer to receive a low equity allocation, as your performance will look better. Banks are increasingly shifting away from the use of regulatory ...

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