The Liquidity Risk Management Guide: From Policy to Pitfalls

6 Step I: Sources of Liquidity Risk

The first step in developing an appropriate liquidity framework is to identify all the Sources of Liquidity Risk specific to the firm. Here again, the individual differences between firms are highlighted and the reason behind this approach is the underlying theory that no two organizations have the same liquidity risk profile.

Trying to make a thorough list of all the Sources of Liquidity Risk can be a formidable task. One needs to capture all the different faces the liquidity creature can have but at the same time ensure that the factors or sources are distinctive and idiosyncratic as opposed to being a different symptom of the same cause. This is the tricky bit, but it can be justified by listing what looks like the same factor twice, should it have multiple expressions. Here, it is better to do more than too little and make up a longer list to start with, which can then be consolidated if some factors are indeed one and the same.

There is a method that helps capture all the various sources. Firstly, the overall broad categories should be defined. All Sources of Liquidity Risk fall into the following three types of sources:

• Systemic. This is also called market-wide risk. Under this category fall all risk factors that are external to the bank, such as market disruptions, lack of market or central bank funding or dislocation of the market mechanism of turning assets into cash. This is a market-wide risk so not only the bank in question is ...