Alert March 23, 2010

Banking Agencies Issue a Final Policy Statement on Funding and Liquidity Risk Management

The FRB, FDIC, OCC, OTS and NCUA, in cooperation with the Conference of State Bank Supervisors, (the “Agencies”) jointly issued a final policy statement on the Agencies’ expectations for financial institutions’ (“FIs”, and each an “FI”) funding and liquidity risk management practices (the “Policy Statement”).  The Agencies stated that the recent turmoil in the financial markets demonstrated the importance of good liquidity risk management in maintaining the safety and soundness of FIs.  A proposed version of the Policy Statement was issued in July 2009 and discussed in the July 7, 2009 Alert.  The final Policy Statement summarizes and updates prior guidance issued by the Agencies concerning liquidity risk management and largely adopts the guidance included in the proposed version of the Policy Statement.  The Policy Statement also, said the Agencies, “supplements [that prior guidance] with [applicable provisions in] the Principles for Sound Liquidity Risk Management and Supervision issued in September 2008 by the Basel Committee on Banking Supervision,” which contains 17 principles concerning international supervisory guidance for sound liquidity risk management.

The Policy Statement stresses the importance of cash flow projections, diversified funding sources, stress testing, maintaining a cushion of liquid assets, intraday liquidity management and operating with a written, well-thought-through contingency funding plan as key elements of sound liquidity risk management.

The Policy Statement does not mandate specific liquidity levels, but states that an FI’s liquidity management process should be tailored and sufficient to address the FI’s funding and liquidity risk “using processes and systems that are commensurate with the [FI’s] complexity, risk profile and scope of operations.”

The Policy Statement deletes a prior requirement in the Agencies’ guidance that separately regulated entities maintain liquidity on a stand-alone basis.  The Agencies also provide in the Policy Statement a discussion of their expectations as to the manner in which the Board of Directors of an FI will meet its corporate governance responsibilities with respect to funding and liquidity risk management.  Specifically, the Policy Statement states that an FI’s Board of Directors should ensure that it:

  • Understands the nature of the liquidity risks of its FI and periodically reviews information necessary to maintain this understanding.
  • Establishes executive-level lines of authority and responsibility for managing the FI’s liquidity risk.
  • Enforces management’s duties to identify, measure, monitor, and control liquidity risk.
  • Understands and periodically reviews the FI’s [contingency funding plans] for handling potential adverse liquidity events.
  • Understands the liquidity risk profiles of important subsidiaries and affiliates as appropriate.
The Policy Statement will become effective on May 21, 2010.