Liquidity Risk MCQs for CAIIB BFM (Unit 17) Module B

Liquidity Risk MCQs for CAIIB BFM (Unit 17) Module B. Preparing for CAIIB BFM Unit 17 on Liquidity Risk Management (LRM)? Master how banks ensure they can pay debts on time, avoiding Liquidity Risk. These important MCQs cover key LRM concepts like BCBS principles, HQLA, stress testing, ALCO’s role, CFPs, liquidity ratios, and RBI rules. Test your knowledge now!

Liquidity Risk MCQs for CAIIB BFM (Unit 17) Module B – Attempt Now!

Question 1: What is the meaning of ‘liquidity’ for a bank?

A. The bank’s ability to make large profits consistently.
B. The bank’s capacity to quickly sell all its assets.
C. The bank’s ability to pay its short-term debts when they are due at a reasonable cost.
D. The bank’s total value of assets minus its liabilities.

Show Explanation

Correct Answer: C. The bank’s ability to pay its short-term debts when they are due at a reasonable cost. Liquidity refers to the ease with which a bank can meet its immediate financial obligations.

Question 2: What is ‘liquidity risk’ for a bank?

A. The risk of losing money due to bad investments.
B. The risk that a bank will not be able to pay its debts when they are due.
C. The risk that a bank’s assets will decrease in value over time.
D. The risk of not attracting enough customers for loans.

Show Explanation

Correct Answer: B. The risk that a bank will not be able to pay its debts when they are due. Liquidity risk is the possibility that a bank will face difficulties in meeting its financial obligations.

Question 3: What does ‘solvency’ mean for a bank?

A. The bank has enough cash on hand to meet daily needs.
B. The bank’s short-term debts are fully covered by its liquid assets.
C. The bank’s total assets are greater than its total long-term liabilities.
D. The bank is making consistent profits year after year.

Show Explanation

Correct Answer: C. The bank’s total assets are greater than its total long-term liabilities. Solvency indicates the long-term financial stability of a bank.

Question 4: Why is Liquidity Risk Management (LRM) very important for a bank?

A. To increase the bank’s profitability in the short term.
B. To ensure the bank can meet its financial obligations when needed.
C. To help the bank expand its operations to new markets.
D. To comply with government regulations on lending practices.

Show Explanation

Correct Answer: B. To ensure the bank can meet its financial obligations when needed. Effective LRM is crucial for a bank’s survival and stability.

Question 5: What is one key benefit of effective Liquidity Risk Management (LRM)?

A. It guarantees higher interest rates for depositors.
B. It prevents the possibility of a bank ever making losses.
C. It helps avoid situations where many customers try to withdraw their money at once.
D. It ensures the bank’s stock price will always increase.

Show Explanation

Correct Answer: C. It helps avoid situations where many customers try to withdraw their money at once. Effective LRM can prevent “run on the bank” scenarios.

Question 6: How does Liquidity Risk Management (LRM) help maintain trust in the market?

A. By ensuring that banks always offer the lowest interest rates on loans.
B. By making sure banks can always pay their obligations, which builds confidence.
C. By forcing banks to invest only in very safe and low-return assets.
D. By allowing banks to operate with very little capital reserves.

Show Explanation

Correct Answer: B. By making sure banks can always pay their obligations, which builds confidence. Effective LRM helps maintain the stability of the financial system.

Question 7: What is one important goal of Liquidity Risk Management (LRM) regarding the timing of a bank’s assets and liabilities?

A. To ensure that all assets mature before any liabilities.
B. To manage the differences in when a bank’s assets and debts come due.
C. To make sure that the total value of assets always equals the total value of liabilities.
D. To delay the maturity of liabilities for as long as possible.

Show Explanation

Correct Answer: B. To manage the differences in when a bank’s assets and debts come due. LRM addresses the potential problems arising from mismatches in asset and liability maturities.

Question 8: What specific situation does Liquidity Risk Management (LRM) aim to prevent?

A. A sudden increase in the demand for loans from customers.
B. A situation where a bank cannot pay back its depositors when they want their money.
C. A sharp decline in the stock market affecting the bank’s investment portfolio.
D. A regulatory audit finding minor discrepancies in the bank’s records.

Show Explanation

Correct Answer: B. A situation where a bank cannot pay back its depositors when they want their money. LRM is crucial to prevent a “run on the bank”.

Question 9: What is a key requirement for effective Liquidity Risk Management (LRM)?

A. Investing in a wide range of high-risk, high-return assets.
B. Holding a sufficient amount of assets that can be quickly converted to cash.
C. Relying heavily on short-term loans from other banks for funding.
D. Minimizing the amount of deposits held by the bank to reduce obligations.

Show Explanation

Correct Answer: B. Holding a sufficient amount of assets that can be quickly converted to cash. Liquid assets are essential for meeting unexpected cash outflows.

Question 10: What does Liquidity Risk Management (LRM) involve regarding a bank’s deposits?

A. Encouraging all depositors to keep their money in the bank for very long periods.
B. Understanding how stable or likely to change the bank’s deposit amounts are.
C. Limiting the total amount of deposits a bank can accept from customers.
D. Offering very high interest rates on deposits to attract more funds.

Show Explanation

Correct Answer: B. Understanding how stable or likely to change the bank’s deposit amounts are. Analyzing deposit behavior helps in predicting potential outflows.

Question 11: What does Liquidity Risk Management (LRM) aim to do with short-term funding sources that can be easily withdrawn?

A. To increase the bank’s reliance on these types of funds for higher returns.
B. To minimize the bank’s dependence on funding that might disappear quickly.
C. To use these funds extensively for long-term lending activities.
D. To completely avoid using any short-term funding sources.

Show Explanation

Correct Answer: B. To minimize the bank’s dependence on funding that might disappear quickly. Reliance on volatile funding can create liquidity problems.

Question 12: What is an important aspect of Liquidity Risk Management (LRM) concerning how a bank gets its funds?

A. Concentrating all funding from a single, reliable source to simplify management.
B. Ensuring that the bank has a variety of different ways to obtain funds.
C. Primarily relying on the bank’s own capital reserves for all funding needs.
D. Continuously seeking the cheapest possible funding sources, regardless of stability.

Show Explanation

Correct Answer: B. Ensuring that the bank has a variety of different ways to obtain funds. Diversification of funding sources reduces liquidity risk.

Question 13: Why does Liquidity Risk Management (LRM) analyze how deposits have behaved in the past?

A. To determine which customers are most likely to take out loans in the future.
B. To predict how depositors might react in different economic situations.
C. To calculate the average interest rate the bank has paid on deposits over time.
D. To identify any fraudulent activities related to deposit accounts.

Show Explanation

Correct Answer: B. To predict how depositors might react in different economic situations. Historical data helps in forecasting future deposit behavior.

Question 14: What does Liquidity Risk Management (LRM) assess about a bank’s assets that are maturing?

A. Whether the interest rates on these assets will increase before maturity.
B. If these assets will generate the expected amount of cash when they come due.
C. How easily these assets can be sold in the secondary market if needeD.
D. The total profit the bank has made from these assets over their lifetime.

Show Explanation

Correct Answer: B. If these assets will generate the expected amount of cash when they come due. Assessing maturing assets ensures expected inflows materialize.

Question 15: Why is a good reputation in the market important for a bank’s Liquidity Risk Management (LRM)?

A. It allows the bank to charge higher fees for its services.
B. It helps the bank attract more talented employees.
C. It helps maintain the confidence of depositors, making them less likely to withdraw funds suddenly.
D. It reduces the amount of capital the bank needs to hold as a buffer.

Show Explanation

Correct Answer: C. It helps maintain the confidence of depositors, making them less likely to withdraw funds suddenly. Market confidence is crucial for deposit stability.

Question 16: What does Liquidity Risk Management (LRM) consider regarding standby credit lines?

A. The total amount of profit the bank can make from these credit lines.
B. Whether the bank has access to unused credit that it can draw upon if needed.
C. The fees the bank has to pay to maintain these standby credit lines.
D. The creditworthiness of the institutions providing these standby credit lines.

Show Explanation

Correct Answer: B. Whether the bank has access to unused credit that it can draw upon if needed. Undrawn credit lines can be a source of liquidity during stress.

Question 17: What are ‘off-balance sheet exposures’ that Liquidity Risk Management (LRM) needs to consider?

A. The bank’s investments in government bonds and other low-risk securities.
B. Financial commitments or potential obligations that are not recorded directly on the bank’s main financial statements.
C. The bank’s physical assets such as buildings and equipment.
D. The total amount of loans that the bank has approved but not yet disbursed.

Show Explanation

Correct Answer: B. Financial commitments or potential obligations that are not recorded directly on the bank’s main financial statements. Off-balance sheet items can have a significant impact on liquidity.

Question 18: What is a crucial part of Liquidity Risk Management (LRM) for dealing with potential cash shortages?

A. Ignoring the possibility of liquidity problems as long as the bank is profitable.
B. Having plans in place to manage and overcome situations where the bank doesn’t have enough liquid funds.
C. Waiting until a liquidity crisis occurs before taking any action.
D. Relying solely on the government to provide financial assistance during a crisis.

Show Explanation

Correct Answer: B. Having plans in place to manage and overcome situations where the bank doesn’t have enough liquid funds. Contingency plans are essential for handling liquidity shortfalls.

Question 19: What are the different levels of liquidity that Liquidity Risk Management (LRM) helps a bank determine?

A. High, medium, and low liquidity levels for different types of assets.
B. The necessary amounts of liquidity for day-to-day operations, regulatory requirements, and unexpected needs.
C. The interest rates the bank should offer on different types of deposit accounts.
D. The maximum amount of loans the bank can approve for different customer segments.

Show Explanation

Correct Answer: B. The necessary amounts of liquidity for day-to-day operations, regulatory requirements, and unexpected needs. LRM helps determine operational, reserve, and contingency liquidity needs.

Question 20: What is an important factor that Liquidity Risk Management (LRM) must consider regarding the external environment?

A. How changes in government policies might affect the bank’s lending limits.
B. How changes in the market and the overall economy can impact the bank’s liquidity needs.
C. The strategies of the bank’s competitors in attracting new customers.
D. The latest technological advancements in the banking industry.

Show Explanation

Correct Answer: B. How changes in the market and the overall economy can impact the bank’s liquidity needs. Economic and market changes can significantly affect liquidity.

Question 21: What does Liquidity Risk Management (LRM) evaluate about the various ways a bank can access funds?

A. The marketing strategies used by different funding providers.
B. The availability, ease of access, and cost associated with different sources of liquidity.
C. The accounting procedures required for different types of funding.
D. The legal agreements involved in securing different funding options.

Show Explanation

Correct Answer: B. The availability, ease of access, and cost associated with different sources of liquidity. LRM assesses the various aspects of liquidity sources.

Question 22: What is the purpose of implementing ‘early warning systems’ in Liquidity Risk Management (LRM)?

A. To automatically reject loan applications from high-risk borrowers.
B. To detect potential signs of liquidity problems before they become severe.
C. To alert customers about new investment opportunities offered by the bank.
D. To track the performance of the bank’s stock price in the market.

Show Explanation

Correct Answer: B. To detect potential signs of liquidity problems before they become severe. Early warning systems help in proactive management of liquidity risk.

Question 23: What does Liquidity Risk Management (LRM) ensure regarding the bank’s procedures for handling a crisis?

A. That the bank has enough insurance coverage to protect against all potential losses.
B. That the bank’s crisis response plans are well-defined and can be executed effectively.
C. That the bank’s senior management has personal liability for any financial losses during a crisis.
D. That the bank can quickly and easily merge with a stronger financial institution if needed.

Show Explanation

Correct Answer: B. That the bank’s crisis response plans are well-defined and can be executed effectively. Effective crisis execution processes are crucial for managing liquidity crises.

Question 24: What is a key difference between a bank being ‘solvent’ and being ‘liquid’?

A. A solvent bank can always meet its short-term obligations, while a liquid bank has more assets than liabilities.
B. A solvent bank has more assets than liabilities in the long run, while a liquid bank can meet its immediate cash needs.
C. Solvency is a short-term measure of financial health, while liquidity is a long-term measure.
D. Liquidity refers to the bank’s ability to make profits, while solvency refers to its ability to attract deposits.

Show Explanation

Correct Answer: B. A solvent bank has more assets than liabilities in the long run, while a liquid bank can meet its immediate cash needs. A bank can be solvent but not have enough liquid assets to pay its immediate debts.

Question 25: What is considered the ideal financial condition for a bank in terms of liquidity and solvency?

A. Being highly liquid but potentially having long-term liabilities exceeding assets.
B. Being highly solvent but potentially facing difficulties in meeting short-term obligations.
C. Being both liquid enough to meet short-term needs and solvent with assets exceeding long-term debts.
D. Prioritizing solvency over liquidity as long-term stability is more important.

Show Explanation

Correct Answer: C. Being both liquid enough to meet short-term needs and solvent with assets exceeding long-term debts. The ideal state is to be financially sound in both the short and long term.

Question 26: What significant event in 2008 highlighted the importance of Liquidity Risk Management (LRM)?

A. A major technological breakthrough that transformed the banking industry.
B. The Global Financial Crisis, where many banks faced severe liquidity problems.
C. A new international agreement on trade and investment.
D. A widespread pandemic that affected economic activity globally.

Show Explanation

Correct Answer: B. The Global Financial Crisis, where many banks faced severe liquidity problems. The 2008 crisis underscored the critical role of LRM.

Question 27: What was a major reason for the failure of many financial institutions during the 2008 Global Financial Crisis?

A. They had invested too much in very profitable but highly illiquid assets.
B. They had very strict Liquidity Risk Management (LRM) policies that restricted their growth.
C. They had an excess of liquid assets that were not generating enough returns.
D. They were primarily focused on long-term solvency and neglected short-term liquidity needs.

Show Explanation

Correct Answer: A. They had invested too much in very profitable but highly illiquid assets. Inadequate liquidity was a key factor in many failures.

Question 28: What role do central banks often play during financial crises related to liquidity?

A. They typically increase interest rates to discourage borrowing and reduce liquidity.
B. They often act as a source of funds for banks facing liquidity shortages.
C. They usually impose stricter regulations on banks to limit their lending activities.
D. They generally remain neutral and allow the market to correct itself.

Show Explanation

Correct Answer: B. They often act as a source of funds for banks facing liquidity shortages. Central banks serve as lenders of last resort.

Question 29: How does increased economic globalization affect the potential for liquidity problems to spread?

A. Globalization reduces the risk of liquidity problems as financial systems become more interconnected.
B. Globalization increases the potential for liquidity problems in one country to quickly affect financial institutions in other countries.
C. Globalization makes it easier for banks to access diverse sources of funding during a liquidity crisis.
D. Globalization has no significant impact on the potential for systemic risk from liquidity problems.

Show Explanation

Correct Answer: B. Globalization increases the potential for liquidity problems in one country to quickly affect financial institutions in other countries. Economic globalization can amplify systemic risk.

Question 30: Which of the following is an internal factor that can increase a bank’s liquidity risk?

A. A sudden economic downturn affecting many borrowers.
B. A high amount of financial obligations that are not recorded on the main balance sheet.
C. A decrease in the overall trust of depositors in the banking system.
D. A large number of customers withdrawing their deposits unexpectedly.

Show Explanation

Correct Answer: B. A high amount of financial obligations that are not recorded on the main balance sheet. High off-balance sheet exposures can lead to unexpected liquidity needs.

Question 31: What is the potential effect of a bank heavily relying on short-term deposits for its funding?

A. It usually leads to lower interest expenses for the bank.
B. It can increase liquidity risk because these deposits might be withdrawn quickly.
C. It generally makes the bank more attractive to long-term investors.
D. It typically results in a very stable and predictable funding base.

Show Explanation

Correct Answer: B. It can increase liquidity risk because these deposits might be withdrawn quickly. Short-term deposits are more volatile and can lead to funding issues.

Question 32: What does a ‘negative maturity gap’ typically indicate for a bank’s liquidity?

A. The bank has more assets maturing before its liabilities.
B. The bank has more liabilities becoming due before its assets generate cash.
C. The bank’s total assets are less than its total liabilities.
D. The bank’s profits are declining over time.

Show Explanation

Correct Answer: B. The bank has more liabilities becoming due before its assets generate cash. This situation can create a need for immediate funding.

Question 33: How can a rapid increase in a bank’s assets potentially affect its liquidity risk?

A. It usually leads to a more diversified and stable asset base.
B. It can increase liquidity risk if these new assets are not easily convertible to cash.
C. It generally results in higher levels of readily available liquid funds.
D. It typically reduces the bank’s dependence on external funding sources.

Show Explanation

Correct Answer: B. It can increase liquidity risk if these new assets are not easily convertible to cash. Rapid asset expansion into illiquid assets can strain liquidity.

Question 34: What is the risk associated with a high concentration of deposits from a few large depositors?

A. It usually leads to lower overall funding costs for the bank.
B. It can increase liquidity risk because a withdrawal by one large depositor can significantly impact the bank’s funds.
C. It generally makes the bank more resilient to economic downturns.
D. It typically simplifies the management of the bank’s deposit base.

Show Explanation

Correct Answer: B. It can increase liquidity risk because a withdrawal by one large depositor can significantly impact the bank’s funds. Deposit concentration makes the bank vulnerable to large withdrawals.

Question 35: What is the implication of a bank having a low allocation to liquid assets?

A. The bank is likely to generate higher returns on its asset portfolio.
B. The bank might face difficulties in meeting unexpected cash outflows.
C. The bank is generally considered to be in a very strong financial position.
D. The bank is less likely to be affected by fluctuations in market interest rates.

Show Explanation

Correct Answer: B. The bank might face difficulties in meeting unexpected cash outflows. Low liquid asset holdings reduce the bank’s ability to handle sudden funding needs.

Question 36: Which of the following is an external factor that can drive up a bank’s liquidity risk?

A. An increase in the bank’s off-balance sheet commitments.
B. A decline in the public’s confidence in the stability of banks.
C. A strategy by the bank to rapidly expand its loan portfolio.
D. A decision by the bank to rely more on short-term funding.

Show Explanation

Correct Answer: B. A decline in the public’s confidence in the stability of banks. Decreasing depositor trust can lead to increased withdrawals.

Question 37: How can sensitive market depositors contribute to a bank’s liquidity risk?

A. They are more likely to keep their deposits in the bank for longer periods.
B. They tend to be more reactive to negative news and may withdraw funds quickly.
C. They usually demand lower interest rates on their deposits, reducing funding costs.
D. They typically have a better understanding of the bank’s financial health.

Show Explanation

Correct Answer: B. They tend to be more reactive to negative news and may withdraw funds quickly. Sensitive depositors can trigger sudden large outflows.

Question 38: What is the potential impact of a general economic downturn on a bank’s liquidity?

A. It usually leads to an increase in the value of the bank’s asset portfolio.
B. It can increase liquidity risk as borrowers may default on loans, reducing cash inflows.
C. It generally results in higher levels of deposits as people become more risk-averse.
D. It typically makes it easier for banks to access funding from wholesale markets.

Show Explanation

Correct Answer: B. It can increase liquidity risk as borrowers may default on loans, reducing cash inflows. Economic downturns can negatively affect asset quality and cash flows.

Question 39: What is the effect of a sudden large withdrawal of liquidity from a bank?

A. It typically has no significant impact if the bank is profitable.
B. It can strain the bank’s ability to meet its immediate financial obligations.
C. It usually leads to an increase in the bank’s stock price due to perceived stability.
D. It generally makes it easier for the bank to manage its remaining funds.

Show Explanation

Correct Answer: B. It can strain the bank’s ability to meet its immediate financial obligations. Large withdrawals can quickly deplete a bank’s liquid resources.

Question 40: What is ‘funding liquidity risk’?

A. The risk of not being able to sell assets quickly at a fair price.
B. The risk of not having enough capital to absorb unexpected losses.
C. The risk of not being able to meet cash flow and collateral needs.
D. The risk of changes in interest rates affecting the bank’s profitability.

Show Explanation

Correct Answer: C. The risk of not being able to meet cash flow and collateral needs. Funding liquidity risk relates to a bank’s ability to obtain necessary funds.

Question 41: What is ‘market liquidity risk’?

A. The risk that a bank’s funding sources will dry up unexpectedly.
B. The risk that a bank cannot easily convert its assets into cash without a significant loss in value.
C. The risk of a sudden decrease in the overall market value of the bank’s assets.
D. The risk that the bank will not be able to attract enough deposits from customers.

Show Explanation

Correct Answer: B. The risk that a bank cannot easily convert its assets into cash without a significant loss in value. Market liquidity risk concerns the ability to trade assets.

Question 42: According to the BCBS principles, who has the primary responsibility for managing a bank’s liquidity risk?

A. The government and regulatory authorities.
B. The bank’s board of directors and senior management.
C. The central bank of the country.
D. The external auditors of the bank.

Show Explanation

Correct Answer: B. The bank’s board of directors and senior management. Banks themselves are primarily responsible for their risk management.

Question 43: What are banks expected to maintain as a cushion against liquidity risks, according to BCBS principles?

A. A large portfolio of high-risk, high-return investments.
B. A sufficient amount of easily convertible, high-quality liquid assets.
C. A minimal amount of capital to maximize returns for shareholders.
D. A heavy reliance on short-term borrowing from other financial institutions.

Show Explanation

Correct Answer: B. A sufficient amount of easily convertible, high-quality liquid assets. HQLA provides a buffer during liquidity stress.

Question 44: What is the role of a bank’s board of directors in liquidity risk management, as per BCBS principles?

A. To handle the day-to-day implementation of liquidity policies.
B. To approve the bank’s overall strategy and risk tolerance for liquidity.
C. To conduct regular audits of the bank’s liquidity position.
D. To directly manage the bank’s cash flows and funding activities.

Show Explanation

Correct Answer: B. To approve the bank’s overall strategy and risk tolerance for liquidity. Governance starts with board oversight.

Question 45: How should liquidity considerations be integrated into a bank’s internal pricing and performance measurement, according to BCBS principles?

A. Liquidity costs and benefits should be ignored to simplify performance evaluation.
B. Liquidity aspects should be factored in to provide a more accurate view of profitability and risk.
C. Performance should be solely based on revenue generation, regardless of liquidity implications.
D. Pricing should only consider market interest rates and not the cost of liquidity.

Show Explanation

Correct Answer: B. Liquidity aspects should be factored in to provide a more accurate view of profitability and risk. This ensures that liquidity costs are properly accounted for.

Question 46: What does a sound process for managing liquidity risk involve, according to BCBS principles?

A. Primarily focusing on historical data and ignoring future projections.
B. Identifying, measuring, monitoring, and controlling liquidity risk comprehensively.
C. Relying solely on external ratings and market opinions for risk assessment.
D. Implementing very rigid rules that cannot be adjusted to changing conditions.

Show Explanation

Correct Answer: B. Identifying, measuring, monitoring, and controlling liquidity risk comprehensively. A robust process covers all aspects of risk management.

Question 47: What should a bank’s management include in its liquidity risk management practices, according to BCBS principles?

A. Minimizing the diversification of funding sources to reduce complexity.
B. Comprehensive projections of cash inflows and outflows across different scenarios.
C. Focusing only on domestic currency liquidity and ignoring foreign currency exposures.
D. Assuming that past deposit behavior will always accurately predict future trends.

Show Explanation

Correct Answer: B. Comprehensive projections of cash inflows and outflows across different scenarios. Cash flow projections are crucial for understanding liquidity needs.

Question 48: According to BCBS principles, what should banks do regarding their presence in funding markets?

A. Avoid regular participation to minimize transaction costs.
B. Maintain an ongoing presence to ensure access to funds when needed.
C. Only access markets during periods of financial stress.
D. Rely solely on interbank lending and avoid other market participants.

Show Explanation

Correct Answer: B. Maintain an ongoing presence to ensure access to funds when needed. Regular market presence helps in maintaining funding access.

Question 49: What type of testing is mandatory for banks under BCBS principles for sound liquidity management?

A. Backtesting of historical financial performance.
B. Regular, forward-looking stress testing under various adverse conditions.
C. Compliance testing with regulatory requirements.
D. Scenario planning for potential business expansion opportunities.

Show Explanation

Correct Answer: B. Regular, forward-looking stress testing under various adverse conditions. Stress testing helps assess resilience to shocks.

Question 50: What is a Contingency Funding Plan (CFP) and why is it required by BCBS principles?

A. It’s a plan to increase profitability during economic booms; required for maximizing shareholder value.
B. It’s a documented strategy for addressing liquidity shortfalls during crisis situations; required for managing severe liquidity stress.
C. It’s a plan for investing in new technologies; required for maintaining competitiveness.
D. It’s a strategy for reducing operational costs; required for improving efficiency.

Show Explanation

Correct Answer: B. It’s a documented strategy for addressing liquidity shortfalls during crisis situations; required for managing severe liquidity stress. A CFP is essential for handling unexpected liquidity crises.

Question 51: What kind of assets should a bank maintain as a readily available cushion, according to BCBS principles?

A. Assets that are difficult to sell quickly but offer very high returns.
B. Unencumbered High-Quality Liquid Assets (HQLA) that can be easily converted to cash.
C. A large portfolio of loans to generate consistent interest income.
D. Physical assets like real estate that can be used as collateral if needed.

Show Explanation

Correct Answer: B. Unencumbered High-Quality Liquid Assets (HQLA) that can be easily converted to cash. HQLA provides immediate liquidity during stress.

Question 52: What does BCBS principle on public disclosure require banks to do regarding their liquidity risk profile?

A. Keep all information about liquidity risk confidential to avoid market speculation.
B. Regularly share information that allows stakeholders to assess their liquidity risk.
C. Only disclose information about liquidity risk when specifically requested by regulators.
D. Provide very general statements about their liquidity management practices without specific details.

Show Explanation

Correct Answer: B. Regularly share information that allows stakeholders to assess their liquidity risk. Transparency builds market confidence.

Question 53: What are ‘off-balance sheet (OBS) exposures’?

A. The total amount of cash a bank has in its vaults and at the central bank.
B. Financial items that are recorded directly on a bank’s main financial statements.
C. Financial commitments or potential obligations that are not currently on the balance sheet but can create future needs.
D. The difference between a bank’s total assets and its total liabilities.

Show Explanation

Correct Answer: C. Financial commitments or potential obligations that are not currently on the balance sheet but can create future needs. OBS exposures can have a significant impact on future liquidity.

Question 54: What is the purpose of a Contingency Funding Plan (CFP)?

A. To outline strategies for increasing a bank’s profitability in normal market conditions.
B. To detail how a bank will manage and overcome liquidity shortages during times of stress.
C. To describe the bank’s plans for expanding its branch network and customer base.
D. To provide guidelines for employees on ethical conduct and professional behavior.

Show Explanation

Correct Answer: B. To detail how a bank will manage and overcome liquidity shortages during times of stress. A CFP is a crucial tool for managing liquidity crises.

Question 55: What are ‘unencumbered High-Quality Liquid Assets (HQLA)’?

A. Assets that are pledged as collateral for borrowing or other obligations.
B. Assets that are difficult to sell quickly but are expected to generate high returns in the long run.
C. Assets that can be easily and quickly converted into cash with minimal loss of value and are not pledgeD.
D. Assets that are primarily held for trading purposes and are subject to significant price fluctuations.

Show Explanation

Correct Answer: C. Assets that can be easily and quickly converted into cash with minimal loss of value and are not pledged. HQLA provides readily available liquidity.

Question 56: What is ALCO and what is its role in a bank?

A. It stands for Audit and Loan Compliance Office, responsible for ensuring regulatory compliance.
B. It stands for Asset Liability Committee, a senior management group managing the balance sheet, including liquidity risk.
C. It stands for Anti-Money Laundering and Counter-Terrorist Financing Organization, focused on preventing financial crime.
D. It stands for Automated Lending and Credit Operations, overseeing the bank’s lending processes.

Show Explanation

Correct Answer: B. It stands for Asset Liability Committee, a senior management group managing the balance sheet, including liquidity risk. ALCO plays a key role in strategic balance sheet management.

Question 57: What is ‘Stress Testing’ in the context of liquidity risk management?

A. A method of evaluating the performance of bank employees under pressure.
B. A technique that simulates unfavorable financial or operational scenarios to assess a bank’s ability to withstand them, including its liquidity.
C. A process of regularly checking the accuracy of the bank’s financial records.
D. A marketing strategy used by banks to highlight their financial strength and stability.

Show Explanation

Correct Answer: B. A technique that simulates unfavorable financial or operational scenarios to assess a bank’s ability to withstand them, including its liquidity. Stress testing helps in understanding a bank’s resilience.

Question 58: Who holds the ultimate responsibility for liquidity risk management (LRM) within a bank?

A. The Asset-Liability Management Committee (ALCO).
B. The Risk Management Committee.
C. The Board of Directors (BoD).
D. The Asset Liability Management (ALM) Support Group.

Show Explanation

Correct Answer: C. The Board of Directors (BoD). The BoD has the highest level of responsibility for overseeing all aspects of the bank’s operations, including risk management.

Question 59: What is one of the key functions of the Board of Directors (BoD) in relation to liquidity risk management (LRM)?

A. To execute the day-to-day monitoring of liquidity positions.
B. To set the bank’s overall LRM strategy, policies, and risk tolerance.
C. To prepare detailed reports on the bank’s liquidity profile for regulatory authorities.
D. To manage the bank’s relationships with its major depositors and creditors.

Show Explanation

Correct Answer: B. To set the bank’s overall LRM strategy, policies, and risk tolerance. The BoD provides the overarching direction for LRM.

Question 60: What is the primary role of the Risk Management Committee in the context of liquidity risk?

A. To implement the liquidity risk management strategy defined by the ALCO.
B. To analyze and report on all types of risks, including liquidity risk, to the Board of Directors.
C. To manage the bank’s liquid asset portfolio and funding sources.
D. To ensure that the bank complies with all regulatory requirements related to liquidity.

Show Explanation

Correct Answer: B. To analyze and report on all types of risks, including liquidity risk, to the Board of Directors. This committee provides an independent assessment of the bank’s risk profile.

Question 61: Which committee is responsible for putting the liquidity risk management (LRM) strategy into action, while adhering to the risk limits set by the Board of Directors?

A. The Risk Management Committee.
B. The Audit Committee.
C. The Asset-Liability Management Committee (ALCO).
D. The Credit Committee.

Show Explanation

Correct Answer: C. The Asset-Liability Management Committee (ALCO). ALCO is a top management committee that manages the bank’s balance sheet risks, including liquidity.

Question 62: What is the main function of the Asset Liability Management (ALM) Support Group?

A. To make strategic decisions regarding the bank’s asset and liability mix.
B. To provide the Board of Directors with independent assessments of liquidity risk.
C. To analyze, monitor, and report on the bank’s liquidity risk situation to the ALCO.
D. To execute the contingency funding plan during periods of liquidity stress.

Show Explanation

Correct Answer: C. To analyze, monitor, and report on the bank’s liquidity risk situation to the ALCO. This group provides the technical support for liquidity management.

Question 63: What are some of the key elements that a Liquidity Risk Management (LRM) Policy must include?

A. Marketing strategies, branch expansion plans, and human resource policies.
B. Risk tolerance levels, funding strategies, prudential limits, and stress testing framework.
C. Credit approval processes, investment guidelines, and customer service standards.
D. Information technology infrastructure plans, cybersecurity protocols, and data privacy policies.

Show Explanation

Correct Answer: B. Risk tolerance levels, funding strategies, prudential limits, and stress testing framework. A comprehensive LRM policy covers these essential aspects.

Question 64: Across which areas should Liquidity Risk Management (LRM) policies address liquidity needs?

A. Only for the bank as a whole and in the domestic currency.
B. Across individual currencies, legal entities (like subsidiaries), and different business lines.
C. Primarily for the bank’s largest business segments and major asset classes.
D. Only for short-term liquidity needs and not for long-term funding requirements.

Show Explanation

Correct Answer: B. Across individual currencies, legal entities (like subsidiaries), and different business lines. Liquidity needs can vary across these dimensions.

Question 65: How often should the Board of Directors (BoD) review and approve the Liquidity Risk Management (LRM) policy?

A. Only when there are significant changes in the bank’s operations or the regulatory environment.
B. At least once every two years to ensure its continued relevance.
C. At least annually to ensure it remains appropriate for the bank’s risk profile.
D. Only when instructed to do so by the regulatory authorities.

Show Explanation

Correct Answer: C. At least annually to ensure it remains appropriate for the bank’s risk profile. Regular review ensures the policy stays current.

Question 66: What does the Liquidity Risk Tolerance, as defined by the Board of Directors (BoD), reflect?

A. The bank’s desire to maximize profits from its liquid asset holdings.
B. The bank’s financial strength and its capacity to handle adverse liquidity events.
C. The minimum level of liquid assets the bank is required to hold by regulations.
D. The bank’s strategy for attracting and retaining a large base of stable depositors.

Show Explanation

Correct Answer: B. The bank’s financial strength and its capacity to handle adverse liquidity events. Risk tolerance indicates the level of liquidity risk the bank is willing to accept.

Question 67: How can a bank articulate its Liquidity Risk Tolerance?

A. Only through setting limits on the interest rates it pays on deposits.
B. By defining maturity mismatch limits, specific liquidity ratios, or minimum survival periods under stress.
C. Primarily by focusing on qualitative assessments of potential liquidity risks.
D. Only by adhering to the liquidity requirements prescribed by the central bank.

Show Explanation

Correct Answer: B. By defining maturity mismatch limits, specific liquidity ratios, or minimum survival periods under stress. These are quantitative ways to express risk tolerance.

Question 68: What is a fundamental requirement for banks regarding the identification of liquidity risk?

A. To only focus on the liquidity risk associated with their core banking activities.
B. To identify liquidity risk present in all their on-balance sheet and off-balance sheet positions across all currencies.
C. To primarily assess the liquidity risk arising from their lending operations.
D. To only consider the liquidity risk associated with short-term liabilities.

Show Explanation

Correct Answer: B. To identify liquidity risk present in all their on-balance sheet and off-balance sheet positions across all currencies. A comprehensive approach is necessary for effective risk management.

Question 69: What does the ‘Stock Approach’ measure in the context of liquidity risk?

A. The projected cash inflows and outflows of the bank over different time periods.
B. Liquidity using ratios based on the bank’s financial position at a specific point in time.
C. The bank’s ability to withstand various stress scenarios through simulations.
D. The historical trends in the bank’s deposit base and funding sources.

Show Explanation

Correct Answer: B. Liquidity using ratios based on the bank’s financial position at a specific point in time. The stock approach provides a snapshot of liquidity.

Question 70: What is a key characteristic of the ‘Stock Approach’ in liquidity measurement?

A. It is highly effective in predicting future liquidity shortages.
B. It provides a forward-looking view of the bank’s liquidity position.
C. It is considered a historical or lagging indicator of liquidity.
D. It focuses on the dynamic changes in the bank’s cash flows.

Show Explanation

Correct Answer: C. It is considered a historical or lagging indicator of liquidity. The stock approach reflects past data.

Question 71: How does the ‘Flow Approach’ measure liquidity risk?

A. By analyzing the bank’s balance sheet ratios at a particular date.
B. By forecasting the bank’s expected and unexpected cash movements over various timeframes.
C. By assessing the marketability of the bank’s assets under stressed conditions.
D. By evaluating the stability of the bank’s core deposit base over the long term.

Show Explanation

Correct Answer: B. By forecasting the bank’s expected and unexpected cash movements over various timeframes. The flow approach focuses on cash flow mismatches.

Question 72: Why is the ‘Flow Approach’ generally considered more effective for managing liquidity risk compared to the ‘Stock Approach’?

A. Because it relies on readily available historical balance sheet data.
B. Because it provides a view of potential future liquidity mismatches.
C. Because it is simpler to calculate and interpret than liquidity ratios.
D. Because it is mandated by most regulatory authorities worldwide.

Show Explanation

Correct Answer: B. Because it provides a view of potential future liquidity mismatches. The forward-looking nature of the flow approach is crucial for proactive management.

Question 73: What should banks establish for key stock-based liquidity ratios?

A. Only publicly disclosed targets to ensure transparency.
B. Internal limits that are monitored regularly at the bank level and for major currencies.
C. Limits that are solely based on regulatory minimum requirements.
D. Flexible guidelines that can be adjusted based on market conditions.

Show Explanation

Correct Answer: B. Internal limits that are monitored regularly at the bank level and for major currencies. Internal limits help in managing liquidity within the bank’s risk tolerance.

Question 74: What does the liquidity ratio “(Volatile liabilities – Temporary Assets) / (Earning Assets – Temporary Assets)” indicate?

A. The proportion of total assets funded by stable core deposits.
B. The buffer of liquid assets available to cover potential outflows from volatile liabilities.
C. The reliance on short-term, potentially unstable funds to finance income-generating assets.
D. The proportion of relatively illiquid assets on the bank’s balance sheet.

Show Explanation

Correct Answer: C. The reliance on short-term, potentially unstable funds to finance income-generating assets. A high ratio might indicate higher liquidity risk.

Question 75: What does the liquidity ratio “Core deposits / Total Assets” measure?

A. The bank’s ability to meet short-term obligations with its liquid assets.
B. The proportion of the bank’s total assets that are generating income.
C. The extent to which the bank’s total assets are funded by stable, long-term deposits.
D. The bank’s overall dependence on potentially unstable funding sources.

Show Explanation

Correct Answer: C. The extent to which the bank’s total assets are funded by stable, long-term deposits. A higher ratio generally indicates a more stable funding base.

Question 76: What types of assets are included in the numerator of the liquidity ratio “(Loans + mandatory SLR + mandatory CRR + Fixed Assets) / Total Assets”?

A. Highly liquid, short-term investments that can be easily converted to cash.
B. Assets that are considered relatively difficult to convert into cash quickly.
C. Only the loans that the bank has extended to its customers.
D. Only the fixed assets such as the bank’s buildings and equipment.

Show Explanation

Correct Answer: B. Assets that are considered relatively difficult to convert into cash quickly. This ratio measures the proportion of illiquid assets.

Question 77: What does the liquidity ratio “(Loans + mandatory SLR + mandatory CRR + Fixed Assets) / Core Deposits” assess?

A. The bank’s profitability from its lending activities.
B. The extent to which relatively illiquid assets are financed by stable core deposits.
C. The bank’s compliance with regulatory requirements for reserve maintenance.
D. The efficiency of the bank in managing its fixed assets.

Show Explanation

Correct Answer: B. The extent to which relatively illiquid assets are financed by stable core deposits. A higher ratio might suggest a greater reliance on core deposits for funding less liquid assets.

Question 78: What does the liquidity ratio “Temporary Assets / Total Assets” represent?

A. The proportion of the bank’s funding that comes from short-term borrowings.
B. The proportion of the bank’s assets that are considered highly liquid and readily available.
C. The bank’s overall level of profitability from its asset holdings.
D. The proportion of the bank’s assets that are used for long-term lending.

Show Explanation

Correct Answer: B. The proportion of the bank’s assets that are considered highly liquid and readily available. This ratio indicates the bank’s liquid asset position relative to its total assets.

Question 79: What does the liquidity ratio “Temporary Assets / Volatile Liabilities” measure?

A. The bank’s ability to generate profits from its temporary assets.
B. The extent to which the bank’s volatile liabilities are used to fund temporary assets.
C. The buffer of liquid assets the bank has to cover potential outflows from unstable funding sources.
D. The proportion of the bank’s total liabilities that are considered volatile.

Show Explanation

Correct Answer: C. The buffer of liquid assets the bank has to cover potential outflows from unstable funding sources. A higher ratio suggests a stronger ability to meet potential volatile liability outflows.

Question 80: What does the liquidity ratio “Volatile Liabilities / Total Assets” indicate?

A. The bank’s reliance on stable, long-term funding sources.
B. The bank’s overall dependence on funding sources that are potentially unstable and could lead to sudden outflows.
C. The proportion of the bank’s assets that are generating a high rate of return.
D. The bank’s ability to quickly convert its assets into cash during a crisis.

Show Explanation

Correct Answer: B. The bank’s overall dependence on funding sources that are potentially unstable and could lead to sudden outflows. A higher ratio might indicate a higher liquidity risk.

Question 81: What typically constitutes ‘Volatile Liabilities’?

A. Long-term customer deposits with fixed maturity periods.
B. Short-term deposits, short-term borrowings, and certain contingent liabilities likely to require quick funding.
C. The bank’s capital reserves and retained earnings.
D. Investments in government securities with a maturity of more than one year.

Show Explanation

Correct Answer: B. Short-term deposits, short-term borrowings, and certain contingent liabilities likely to require quick funding. These are funding sources that can fluctuate significantly.

Question 82: What are some examples of ‘Temporary Assets’?

A. The bank’s buildings, land, and other fixed infrastructure.
B. Loans extended to customers with varying repayment schedules.
C. Cash on hand, excess CRR balances with the central bank, and highly liquid short-term investments.
D. The bank’s investments in equity shares of other companies.

Show Explanation

Correct Answer: C. Cash on hand, excess CRR balances with the central bank, and highly liquid short-term investments. These assets can be quickly converted to cash.

Question 83: How are ‘Earning Assets’ generally defined?

A. Total assets minus all liabilities.
B. Total assets minus fixed assets and other assets that do not directly generate income.
C. Only the loans and advances extended by the bank to its customers.
D. Only the investments held by the bank in government and corporate bonds.

Show Explanation

Correct Answer: B. Total assets minus fixed assets and other assets that do not directly generate income. Earning assets are those that contribute to the bank’s revenue.

Question 84: What are considered ‘Core Deposits’?

A. Deposits that are held for a very short term and are highly sensitive to interest rate changes.
B. Primarily long-term customer deposits and the bank’s net worth (capital and reserves), considered stable funding sources.
C. Deposits that are obtained from other financial institutions in the interbank market.
D. Deposits that are held in foreign currencies and are subject to exchange rate fluctuations.

Show Explanation

Correct Answer: B. Primarily long-term customer deposits and the bank’s net worth (capital and reserves), considered stable funding sources. Core deposits provide a stable funding base for the bank.

Question 85: What is the main goal of stress testing for a bank’s liquidity position?

A. To increase the bank’s profitability in favorable economic conditions.
B. To find out how the bank’s liquidity would be affected by very difficult but possible situations.
C. To ensure that the bank always has the maximum possible amount of liquid assets.
D. To predict the future trends in the stock market and adjust the bank’s investments accordingly.

Show Explanation

Correct Answer: B. To find out how the bank’s liquidity would be affected by very difficult but possible situations. Stress testing helps in understanding the bank’s resilience to adverse conditions.

Question 86: How often should a bank conduct stress testing for its liquidity?

A. Only when there are major changes in the bank’s business strategy.
B. Regularly, for both problems specific to the bank and problems affecting the whole market.
C. Only when instructed to do so by the Reserve Bank of India (RBI).
D. Once a year, as part of the annual financial audit process.

Show Explanation

Correct Answer: B. Regularly, for both problems specific to the bank and problems affecting the whole market. Regular stress testing is crucial for ongoing risk assessment.

Question 87: What kind of risks should be included in the scenarios used for liquidity stress testing?

A. Only the risks related to the bank’s lending activities.
B. Risks from all types of products the bank offers, including complex ones and those not on the balance sheet, as well as funding sources.
C. Only the risks that have occurred in the past and have historical data available.
D. Only the risks that are considered most likely to happen in the near future.

Show Explanation

Correct Answer: B. Risks from all types of products the bank offers, including complex ones and those not on the balance sheet, as well as funding sources. Comprehensive scenarios cover a wide range of potential stresses.

Question 88: What are some of the potential impacts on a bank that are analyzed as part of liquidity stress testing?

A. The job satisfaction levels of the bank’s employees and the effectiveness of its marketing campaigns.
B. The bank’s cash flows, levels of liquid assets, profitability, and long-term financial stability.
C. The number of new customers the bank is able to attract and the volume of transactions processed daily.
D. The bank’s compliance with environmental regulations and its contributions to social welfare.

Show Explanation

Correct Answer: B. The bank’s cash flows, levels of liquid assets, profitability, and long-term financial stability. Stress testing assesses the impact on key financial indicators.

Question 89: Which committee discusses the results of liquidity stress testing and decides on necessary actions?

A. The Audit Committee.
B. The Credit Committee.
C. The Asset-Liability Management Committee (ALCO).
D. The Human Resources Committee.

Show Explanation

Correct Answer: C. The Asset-Liability Management Committee (ALCO). ALCO is responsible for managing the bank’s balance sheet risks, including acting on stress test results.

Question 90: What is the Reserve Bank of India’s (RBI) requirement regarding the documentation and reporting of liquidity stress testing?

A. Banks are not required to report the outcomes of stress testing to the RBI.
B. Banks must keep the stress testing processes and results confidential within the organization.
C. Stress testing processes and outcomes must be properly documented and reported to the RBI.
D. Banks only need to report the stress testing results if they identify significant vulnerabilities.

Show Explanation

Correct Answer: C. Stress testing processes and outcomes must be properly documented and reported to the RBI. Regulatory reporting ensures oversight of banks’ risk management practices.

Question 91: If significant weaknesses are found during liquidity stress testing, to whom should they be immediately reported?

A. Only to the bank’s internal audit department.
B. To the bank’s Board of Directors and the RBI’s Department of Banking Supervision.
C. Only to the senior management of the bank.
D. To the general public through press releases.

Show Explanation

Correct Answer: B. To the bank’s Board of Directors and the RBI’s Department of Banking Supervision. Immediate reporting of vulnerabilities allows for timely corrective action.

Question 92: What is the purpose of a Contingency Funding Plan (CFP) for a bank?

A. To outline strategies for increasing the bank’s profits during normal economic times.
B. To provide a plan for managing liquidity shortages that might occur during stressful situations.
C. To describe the bank’s plans for expanding its operations to new geographical areas.
D. To detail the procedures for handling customer complaints and resolving disputes.

Show Explanation

Correct Answer: B. To provide a plan for managing liquidity shortages that might occur during stressful situations. A CFP is a proactive strategy for dealing with liquidity crises.

Question 93: What should a Contingency Funding Plan (CFP) detail?

A. The marketing budget for the next financial year and the bank’s advertising strategy.
B. The list of all employees in the bank and their respective roles and responsibilities.
C. The available and potential sources of emergency funding, clear steps for action, and estimated time to get the funds.
D. The bank’s long-term investment strategy and its plans for portfolio diversification.

Show Explanation

Correct Answer: C. The available and potential sources of emergency funding, clear steps for action, and estimated time to get the funds. A comprehensive CFP provides practical guidance during a crisis.

Question 94: How often should a bank’s Contingency Funding Plan (CFP) be tested to ensure it works effectively?

A. Only when the bank experiences an actual liquidity crisis.
B. Regularly, through simulations and practice exercises.
C. Only when there are significant changes in the bank’s funding structure.
D. Once every three years, as part of a major review of all operational plans.

Show Explanation

Correct Answer: B. Regularly, through simulations and practice exercises. Regular testing ensures the CFP is effective and that staff are familiar with it.

Question 95: How often should the Board of Directors review the Contingency Funding Plan (CFP)?

A. At least once every five years.
B. At least annually.
C. Only when there are major changes in the regulatory guidelines.
D. Only when the bank’s financial performance declines significantly.

Show Explanation

Correct Answer: B. At least annually. Annual review ensures the CFP remains relevant and aligned with the bank’s current situation.

Question 96: What is a general rule for Indian banks’ overseas operations regarding funding long-term assets with short-term liabilities?

A. It is encouraged as it usually leads to higher profitability.
B. It should generally be avoided for periods longer than ten years.
C. There are no specific restrictions on this practice.
D. It is mandatory to fund all long-term assets with short-term liabilities to manage interest rate risk.

Show Explanation

Correct Answer: B. It should generally be avoided for periods longer than ten years. This principle aims to reduce the risk of funding mismatches in overseas operations.

Question 97: What should be the aim of banks regarding their long-term funding resources for overseas operations?

A. To minimize the cost of funding by relying primarily on short-term sources.
B. To broaden their sources of long-term funding to ensure stability.
C. To concentrate their funding from a few reliable long-term partners.
D. To match the maturity of their funding exactly with the maturity of their assets.

Show Explanation

Correct Answer: B. To broaden their sources of long-term funding to ensure stability. Diversifying funding sources enhances resilience in overseas markets.

Question 98: For overseas operations, what proportion of long-term assets should ideally be funded by long-term resources?

A. At least 50%.
B. At least 70%.
C. At least 90%.
D. 100%.

Show Explanation

Correct Answer: B. At least 70%. This limit aims to ensure a significant portion of long-term assets is funded by stable, long-term sources.

Question 99: For overseas operations, what proportion of combined long and medium-term assets should ideally be funded by combined long and medium-term resources?

A. At least 60%.
B. At least 80%.
C. At least 95%.
D. 100%.

Show Explanation

Correct Answer: B. At least 80%. This broader limit further strengthens the matching of asset and liability maturities.

Question 100: According to the norms for overseas operations, what is considered a ‘short-term’ period?

A. More than 6 months to 3 years.
B. More than 3 years.
C. Up to 6 months.
D. More than 5 years.

Show Explanation

Correct Answer: C. Up to 6 months. This defines the timeframe for short-term assets and liabilities in the context of overseas liquidity management.

Question 101: According to the norms for overseas operations, what is considered a ‘medium-term’ period?

A. Up to 6 months.
B. More than 3 years.
C. More than 6 months to 3 years.
D. More than 5 years.

Show Explanation

Correct Answer: C. More than 6 months to 3 years. This defines the timeframe for medium-term assets and liabilities in overseas liquidity management.

Question 102: According to the norms for overseas operations, what is considered a ‘long-term’ period?

A. Up to 6 months.
B. More than 6 months to 3 years.
C. More than 3 years.
D. Between 1 and 3 years.

Show Explanation

Correct Answer: C. More than 3 years. This defines the timeframe for long-term assets and liabilities in overseas liquidity management.

Question 103: What specific measure is required for a currency that constitutes 10% or more of a bank’s consolidated overseas balance sheet?

A. Banks should limit their transactions in this currency to reduce exposure.
B. Specific controls for managing liquidity in that currency are necessary.
C. Banks should aim to reduce the proportion of their balance sheet in this currency.
D. Netting of inter-currency positions and gaps is permitted for this currency.

Show Explanation

Correct Answer: B. Specific controls for managing liquidity in that currency are necessary. This ensures that significant currency exposures are properly managed.

Question 104: What is the rule regarding netting of inter-currency positions or gaps in a bank’s overseas operations?

A. Netting is generally permitted to simplify liquidity management.
B. Netting is not permitted for currencies that constitute 10% or more of the balance sheet.
C. Netting is not permitteD.
D. Netting is permitted only with the prior approval of the Reserve Bank of India.

Show Explanation

Correct Answer: C. Netting is not permitted. This rule emphasizes the need to manage liquidity risks in each currency separately.

Question 105: What must banks have in place to manage liquidity risk for each major currency they deal with?

A. A single, consolidated system for managing liquidity across all currencies.
B. Separate systems to measure, monitor, and control liquidity risk for each significant currency.
C. A policy of only dealing in a limited number of major currencies to simplify management.
D. An agreement with other banks to share liquidity in different currencies during times of stress.

Show Explanation

Correct Answer: B. Separate systems to measure, monitor, and control liquidity risk for each significant currency. This ensures that currency-specific risks are adequately addressed.

Question 106: What tool is often used by banks for currency-specific analysis of liquidity risk?

A. Profit and Loss statements.
B. Balance Sheets.
C. Maturity and Position (MAP) statements.
D. Cash Flow Statements.

Show Explanation

Correct Answer: C. Maturity and Position (MAP) statements. MAP statements help in analyzing the timing of cash flows in different currencies.

Question 107: What is the main purpose of a Management Information System (MIS) for liquidity risk?

A. To automate the bank’s routine transactions and improve efficiency.
B. To provide the Board and ALCO with timely and forward-looking information for effective liquidity risk management.
C. To generate reports for customers about the bank’s financial performance.
D. To ensure that all employees comply with the bank’s internal policies and procedures.

Show Explanation

Correct Answer: B. To provide the Board and ALCO with timely and forward-looking information for effective liquidity risk management. MIS supports informed decision-making.

Question 108: What kind of liquidity information should a good MIS cover?

A. Only historical data on the bank’s past liquidity performance.
B. Liquidity information across all currencies, locations, and sources of risk, including potential risks.
C. Only the information that is required by the regulatory authorities for reporting purposes.
D. Primarily the details of the bank’s largest depositors and borrowers.

Show Explanation

Correct Answer: B. Liquidity information across all currencies, locations, and sources of risk, including potential risks. A comprehensive MIS provides a holistic view of liquidity.

Question 109: What kind of data should the MIS provide, especially during periods of stress?

A. Summarized and aggregated data to give an overview.
B. Detailed and time-sensitive data to allow for quick and accurate assessment.
C. Only qualitative assessments of the liquidity situation.
D. Data that is delayed to ensure accuracy and avoid panic.

Show Explanation

Correct Answer: B. Detailed and time-sensitive data to allow for quick and accurate assessment. Granular data is crucial for effective crisis management.

Question 110: Which of the following is typically included in key MIS reports for liquidity management?

A. Employee attendance records and customer feedback surveys.
B. Cash flow projections and gaps, concentrations of assets and funding, and the status of the Contingency Funding Plan.
C. Details of the bank’s marketing campaigns and new product launches.
D. Information about the bank’s investments in the stock market and real estate.

Show Explanation

Correct Answer: B. Cash flow projections and gaps, concentrations of assets and funding, and the status of the Contingency Funding Plan. These reports provide critical insights into the bank’s liquidity position.

Question 111: What report related to liquidity does a bank submit to the RBI’s Department of Banking Supervision?

A. Statement of Income and Expenditure.
B. Statement of Financial Position.
C. Statement of Structural Liquidity.
D. Statement of Cash Flows.

Show Explanation

Correct Answer: C. Statement of Structural Liquidity. This report provides the RBI with information about the bank’s liquidity profile.

Question 112: What is the reporting frequency for the “Statement of Structural Liquidity” for a bank’s domestic currency operations in India?

A. Monthly.
B. Quarterly.
C. Fortnightly.
D. Annually.

Show Explanation

Correct Answer: C. Fortnightly. Banks report their domestic currency liquidity position to the RBI every two weeks.

Question 113: What is the reporting frequency for the “Statement of Structural Liquidity” for a bank’s overseas operations?

A. Fortnightly.
B. Quarterly.
C. Monthly.
D. Annually.

Show Explanation

Correct Answer: C. Monthly. Reporting for overseas operations is done on a monthly basis.

Question 114: What is the reporting frequency for the “Statement of Structural Liquidity” for a bank’s consolidated operations?

A. Fortnightly.
B. Monthly.
C. Quarterly.
D. Annually.

Show Explanation

Correct Answer: C. Quarterly. A consolidated view of the bank’s liquidity is reported to the RBI every quarter.

Question 115: What is essential for banks to have to ensure that they follow their Liquidity Risk Management (LRM) policies?

A. A large number of employees in the compliance department.
B. Appropriate internal controls, systems, and procedures.
C. A very complex and detailed set of LRM policies.
D. A guarantee from the government against any potential liquidity losses.

Show Explanation

Correct Answer: B. Appropriate internal controls, systems, and procedures. These mechanisms ensure adherence to established policies.

Question 116: Why are regular, independent reviews of the liquidity risk management process important?

A. To reduce the workload of the bank’s internal audit department.
B. To assess whether the bank is following its own policies and the regulatory guidelines.
C. To provide an opportunity for employees to take breaks from their regular duties.
D. To ensure that the bank’s liquidity management process is more complex and difficult to understand for outsiders.

Show Explanation

Correct Answer: B. To assess whether the bank is following its own policies and the regulatory guidelines. Independent reviews provide an objective evaluation of the LRM process.

Question 117: What should these independent reviews of the liquidity risk management process assess?

A. Only the profitability of the bank’s liquid asset holdings.
B. The bank’s compliance with its internal policies and the instructions from regulatory authorities.
C. The popularity of the bank’s products and services among its customers.
D. The efficiency of the bank’s information technology infrastructure.

Show Explanation

Correct Answer: B. The bank’s compliance with its internal policies and the instructions from regulatory authorities. Reviews focus on adherence to established standards.

Question 118: What is required when non-compliance or weaknesses are identified during these reviews?

A. The findings should be ignored if they are not considered material.
B. Prompt corrective action must be taken to address the issues.
C. The review report should be kept confidential and not shared with management.
D. The responsibility for addressing the issues lies solely with the external auditors.

Show Explanation

Correct Answer: B. Prompt corrective action must be taken to address the issues. Timely action is crucial for mitigating risks.

Question 119: Who is responsible for making sure that independent reviews are conducted and that the findings are effectively addressed?

A. The external auditors of the bank.
B. The senior management of the bank.
C. The shareholders of the bank.
D. The customers of the bank.

Show Explanation

Correct Answer: B. The senior management of the bank. Management is accountable for ensuring the effectiveness of the internal controls and the LRM process.

Question 120: A bank has assets maturing within 60 days of $80 million and liabilities maturing within the same period of $110 million. What is the 60-day liquidity gap for this bank?

A. $30 million
B. -$30 million
C. $190 million
D. -$190 million

Show Explanation

Correct Answer: B. -$30 million. Liquidity Gap = Assets maturing within 60 days – Liabilities maturing within 60 days = $80 million – $110 million = -$30 million