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Net Stable Funding Ratio - An indispensable parameter from Basel III perspective?

Guest post by
Sukruti Suresh, Senior Associate Consultant, Infosys


Ever since Basel III regulations were introduced, inclusion of the parameter "Net Stable Funding Ratio" is a hotly debated topic.  Basel III Regulations aimed primarily at providing an outline for high quality capital, a well-rounded risk handling as well as build up reserves that institutions can fall back on in dire situations. This gave rise to the introduction of 2 standards of liquidity, which would enable banks to sustain the shocks due to sudden economic loss. These factors were the Liquidity Coverage Ratio (LCR) & Net Stable Funding Ratio (NSFR).

The implications of introducing NSFR as a factor to analyze the liquidity levels of the bank will be multi-folded. While NSFR encourages banks to depend on more stable long term funding instead of short term fund sources, it would translate into banks stimulating their risk appetite with respect to long term debt, face issues like higher funding charges which are generally associated with long term debt options as well as face the possibility of lower yields because of reduction in the dependence on short term funds. Most importantly, banks with a higher NSFR will be beneficial when it comes to pricing of assets at a market level. Smaller banks may find the sense of competition highly overwhelming, as their existence in the market may be greatly reduced.

Apart from these shortcomings, implementation of NSFR might see several other road blocks. Many banks are of view that instead of introducing 2 standards of liquidity, it would be preferred to have a single standard of liquidity. Since LCR has been in focus since the inception of the new guidelines and NSFR was an addition later on, many banks opine that LCR should be the prime focus. Also, there are concerns that changes made to the LCR recently in areas like a more extensive variety of assets being considered, more flexible terms of implementation and an extension of phase in period may have severely cut into the effectiveness of the implementation of NSFR. It is also possible that NSFR is considered to be unfavorable to a bank's interests as it is considered to be heavily interfering in the banks' methods of conducting business. It is also said that while NSFR guidelines provides guideline coverage on an overall basis, it fails to appraise the issues faced by banks on an individual level. Finally the general opinion of banks is that the issues being covered by NSFR are already being addressed in the Pillar 2 of Basel III Regulations. Hence, it is a highly likely possibility that after all these efforts, NSFR may fade into oblivion a few years after its introduction.

Ever since the debate regarding introduction of NSFR has raged on, regulators have been tightlipped regarding the continuation of its implementation. It remains to be seen if they deem it fit to go ahead with its implementation and thereby substantiate its importance or if they will ease the regulatory burden of bankers and scrap this initiative. In my opinion, regulators should focus more on the shortcomings that have been brought to light by banks and duly address their concerns, instead of solely focusing on the implementation deadline of 2018. I feel that NSFR can be further refined by monitoring it across time buckets. Short term and medium term time buckets can be considered for priority in case there is a negative liquidity gap. Also, we need to consider that sustainability of funding sources is also subject to many qualitative factors such as overall level of trust among bankers and macroeconomic perception of different bankers.


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