Securing necessary funds for immediate use
Bank of England Executive Delivers Lecture on Steady-State Liquidity Environment
Nat Benjamin, the executive director of financial stability strategy and risk at the Bank of England, delivered a lecture at OMFIF, emphasizing the importance of fostering a steady-state liquidity environment that supports stability and growth.
In his lecture, Benjamin discussed the long-term implications of these changes and their effects on system-wide liquidity flows, households' access to essential financial services, and businesses' access to essential financial services. He stressed that a holistic approach is crucial in understanding these shifts within the financial system.
One of the key aspects of Benjamin's considerations is the normalization of central bank balance sheets. He underscored the importance of carefully normalizing these balance sheets to avoid disrupting liquidity flows. This requires ensuring that liquidity remains sufficiently cheap and abundant to maintain market depth in normal times, without encouraging excessive leverage that could unravel in times of stress.
Another important consideration is the evolving roles within the financial system, with a shift from traditional banks towards non-bank financial institutions (NBFIs). Banks still provide significant liquidity to NBFIs, but their own liquidity positions, influenced by capital and counterparty risk factors, affect their willingness to lend. Thus, the system-wide liquidity environment must consider how these evolving roles change liquidity flows and access to financial services for households and businesses.
Benjamin also advocated a “middle road” approach in monetary and regulatory policy that incentivizes institutions to maintain their own liquidity insurance while encouraging support for system-wide liquidity through lending in financial markets. The framework should ensure funding markets are liquid and resilient both in normal and stressed conditions.
Additional considerations include encouraging routine use of central bank lending facilities by banks to manage liquidity, removing stigma around such usage to enhance effectiveness in stress periods. Prudent liquidity risk management by NBFIs, informed by lessons from previous market instability episodes, is also vital.
The lecture concluded with recommendations for policymakers to ensure financial stability in the face of these shifts. These recommendations include fostering a culture of resilience, promoting prudent liquidity risk management, and encouraging the use of central bank lending facilities.
In summary, Benjamin emphasized that liquidity management is primarily the responsibility of individual financial institutions, supported by a regulatory environment that balances incentives, fosters resilient funding markets, and adapts to the changing landscape where non-bank players play an increasing role.
[1] Central Bank Balance Sheet Normalization [2] Evolving Roles Within the Financial System [3] Ensuring Coherent Monetary and Regulatory Frameworks [3] Promoting Prudent Liquidity Risk Management by NBFIs [3] Encouraging Routine Use of Central Bank Lending Facilities by Banks [3] Fostering a Culture of Resilience in the Financial Sector
- In the banking-and-insurance industry, the normalization of central bank balance sheets poses a critical risk, as it requires careful administration to avoid disrupting data-driven AI predictions, maintain market depth, and ensure liquidity remains cheap and abundant in financial business, without fostering excessive leverage.
- The evolving roles within the finance industry from traditional banking towards non-bank financial institutions (NBFIs) bring new data challenges, as the liquidity positions of these entities can impact their willingness to lend, consequently affecting system-wide liquidity flows, access to essential financial services for businesses and households, and AI-driven risk management models.
- Enhancing coherent monetary and regulatory frameworks in the AI-focused finance and data-driven business sectors is essential to promote prudent liquidity risk management among NBFIs. This includes supporting the routine use of central bank lending facilities by banks, fostering a culture of resilience within the financial sector, and encouraging the incorporation of AI tools for optimal liquidity risk identification and management.
