September 2008 saw the emblematic moment of the Global Financial Crisis (GFC) when Lehman Brothers collapsed. Intraday liquidity was fundamental to this collapse. Correspondent banks were not willing to provide intraday credit lines with Lehman Brothers looking such a bad risk and demanded Lehman’s either prefund accounts or collateralise the credit required. Once the run on the firm began, Lehman Brothers could not both pay out depositors and provide sufficient liquidity to cover its intraday requirements. Regrettably for the global financial system, Lehman’s had to file for Chapter 11 bankruptcy protection. Ironically, after many years of hard work by administrators, significantly more assets than liabilities were found and paid back to creditors. The problem was that those assets weren’t immediately available when needed back in 2008.
Ironically, regulators had already recognised the dangers building in the financial sector and published their Principles for Sound Liquidity Risk Management and Supervision in August 2008, too late to prevent the collapse of Lehman Brothers only a month later.
Ten years ago, the UK FSA (the banking regulator at the time) issued its Financial Stability Paper on intraday liquidity risk and regulation. This document is still a very readable and insightful publication. It provides the bedrock for the intraday regulatory architecture of today. It explains: why Intraday is a key risk for all financial institutions (FIs); the need for intraday liquidity buffers; how authorities could structure their regulatory approach; and how payment schemes could operate with an appropriate balance between liquidity risk and liquidity efficiency.
So what’s happened in the subsequent ten years? Surely all FIs have made intraday improvements anyway as it makes great business sense? After all, being able to understand where your cash is across all of your accounts every minute of the day means you can make much better decisions and make/save lots of money.
However, the reality is that business change for FIs in the area of risk is often linked to regulatory pressure. Sometimes because firms must comply with new regulations, sometimes because firms try to reduce eye-watering costs of regulator-imposed buffers and in extreme cases where the regulator imposes a finding or matter-requiring-attention (MRA). The realpolitik within large FIs often means change projects only win budget approval if they tick the ‘Regulatory Compliance’ box, so regulator attention helps gain sign‑off for projects that already had very positive standalone business cases and huge financial benefits to the firm.
Given regulator action is so important it’s worth understanding what has happened with intraday regulations over the last ten years. The following is dominated by UK/North America/EU insights so I’d love to hear views from elsewhere.
The Global Standards: Since 2019 the Basel Framework contains all standards for prudential regulation of banks. This framework absorbed 2013’s BCBS 248, which provided a single approach for how all firms should treat intraday liquidity. It requires firms to feedback on peaks of intraday liquidity usage with some additional metrics that help regulators understand a firm’s intraday behaviour. It also includes a helpful requirement for intraday stress testing.
The main benefit of BCBS 248 is to set a floor. As a minimum, a firm must be able to show it understands its business and can identify maximum intraday liquidity usage.
The UK view: The UK PRA (formerly FSA) drove much early global thinking on intraday and has progressed its approach in the last ten years. First it created its own versions of BSBS 248 reports. Then in 2019, alongside bringing insurers into intraday focus, it issued the PRA Statement of Policy on Pillar 2 Liquidity, which encompassed intraday matters. This is the best publicly available statement explaining how a regulator wants firms to treat ‘intraday’. The PRA doesn’t concentrate on BCBS 248 reporting, but instead makes a firm prove it understands intraday usage to a very detailed level – what drives usage, how it might change in a stress, maximum amounts of liquidity used etc. Crucially, the PRA also drives the firm to get better at intraday processes, systems and governance. This is to give confidence that the firm not only understands its intraday usage but can actively monitor it in real time, can react if stresses blow up and has adequate buffers to cope in a crisis. There should be no repeat of Lehman Brothers on the PRA’s watch.
The US regulatory bodies take a quiet but extremely effective approach for firms they deem systemically important. Unlike in the UK, there is little publicly available material on regulatory expectations, but behind the scenes there can be extensive reviews to ensure firms truly understand intraday liquidity exposures and are taking actions to improve capabilities. Often resolution planning drives matters. The FDIC tests that a firm’s resolution plan will provide sufficient intraday liquidity to get through the crucial first few days of a resolution when the firm won’t be able to access intraday credit. Canada lags the US, but again resolution planning is encouraging banks to test intraday liquidity capabilities and allocate intraday buffers.
The view from Europe is mixed given the many regulators involved. The view of the ECB is the most relevant due to its wide remit. In 2018 it updated its views on how firms should manage liquidity and called out intraday as one of the key liquidity risk areas. The experience on the ground varies by country. In certain territories (eg in Germany, Luxembourg) regulators, and sometimes a firm’s auditors, are explicitly testing intraday capabilities. But, currently, European scrutiny is not as extensive as in the UK/US and is often limited to “can you provide BCBS248 reports’, ‘do you conduct intraday stress testing’.
Regulatory pressure ratchets
Varying progress in intraday regulation and attention has created multiple levels of pressure. In a ‘Regulator Ratchet’ model the level a firm is at depends on how much its local regulator cares about (or understands…) intraday liquidity.
Level 1 – Lip service: The most basic level. All firms have to comply with the Basel Framework and so should create BCBS248-style returns identifying intraday usage. However there is minimal engagement from the local regulator. Cash and liquidity management processes are little different to pre-2008 and firms miss out on the benefits of modernisation.
Level 2 – BCBS248 Compliance. Firms have to provide returns to the regulator and there is some discussion of how intraday changes under stress. Generally, interactions are limited to how much intraday liquidity is used rather than to what drives usage and how to reduce usage and related intraday risk. The regulator may set an intraday liquidity buffer, which the firm will struggle to reduce without investing in understanding, managing and monitoring its intraday drivers.
Level 3 – Control. The regulator has little focus on BCBS248 returns. These were stepping stones to ensure firms could at least measure intraday usage after the event and set buffers based on historical peaks. Now the regulator wants the firm to monitor and manage its positions in real time. Can the firm anticipate its intraday usage, can it view this usage as it happens and could it take action quickly if problems arise? This capability goes hand‑in‑hand with real-time treasury and cash/liquidity management capabilities, which unlock significant benefits including controlling operational risk, optimising liquidity buffers and reducing funding costs.
Level 4 – Optimisation. The regulator expects, as a minimum, firms to identify intraday usage and to be able to manage intraday in real time. Now it wants firms to be more than just reactive. Firms needs to understand what is driving intraday positions. This leads to improvements such as identifying which businesses generate intraday usage. This insight drives funds transfer pricing where intraday costs are allocated to the products/businesses/customers that cause them. Similarly, a firm must understand the intraday risks it holds, such as intraday credit risks generated by providing credit lines to multiple customers. What would the credit risk be if all customers utilised those lines simultaneously? Can the firm understand in real time how much cumulative intraday credit it is currently providing?
What does all this mean?
A firm’s position on the ‘Regulatory Ratchet’ is set by which regulator they are supervised by. History shows regulators do ratchet up their levels of pressure so firms should expect increasing interest and attention on intraday matters. Firms must be able to capture intraday data for reporting and will need to create capabilities to control and manage in real time. Ultimately firms must use this intraday dataset to understand and optimise intraday liquidity positions and risks.
In its final state the firm’s systems and processes should enable intraday liquidity control and also provide the necessary ‘levers’ to optimise liquidity. And this should be as real-time capabilities rather than as one-off remediation tasks reacting to crises after-the-event.
If this sounds hard there are two pieces of good news. First, as already discussed, there are tremendous benefits from delivering these capabilities. Risk is reduced, funding is more efficient, liquidity buffers come down. Second, technology can already deliver this. If you want to see how the Planixs Realiti real-time cash and liquidity management suite can help, then please get in touch.