Module: | MODULE B: RISK MANAGEMENT
Q295: Consider the following statements regarding the dimensions of Liquidity Risk in banking:
1. Funding liquidity risk refers to the inability of a bank to meet its immediate financial obligations, such as massive customer deposit withdrawals.
2. Market liquidity risk occurs when a bank cannot easily offset or sell specific assets, without significantly lowering their market prices.
3. A high Statutory Liquidity Ratio (SLR) requirement, inherently increases a bank's funding liquidity risk during a severe crisis.
Which of the statements given above is/are correct?
2. Market liquidity risk occurs when a bank cannot easily offset or sell specific assets, without significantly lowering their market prices.
3. A high Statutory Liquidity Ratio (SLR) requirement, inherently increases a bank's funding liquidity risk during a severe crisis.
Which of the statements given above is/are correct?
✅ Correct Answer: A
The correct answer is A. Statement 1 is correct: Funding Liquidity Risk is the classic "bank run" scenario.
It represents the risk that a bank cannot fund its assets or meet its short-term payment obligations (like honoring customer cheque clearances or sudden ATM withdrawals) because it lacks immediate cash.
Statement 2 is correct: Market Liquidity Risk relates to the asset side.
It is the risk that a bank cannot easily liquidate a specific position (like selling a block of corporate bonds) without taking a massive "haircut" or discount on the price due to shallow market depth.
Statement 3 is incorrect: The Statutory Liquidity Ratio (SLR) mandate requires banks to hold highly liquid, risk-free government securities.
In a crisis, these securities can be easily sold or repo'd with the RBI for instant cash.
Therefore, a high SLR *decreases* funding liquidity risk by providing a mandatory safety cushion.
It represents the risk that a bank cannot fund its assets or meet its short-term payment obligations (like honoring customer cheque clearances or sudden ATM withdrawals) because it lacks immediate cash.
Statement 2 is correct: Market Liquidity Risk relates to the asset side.
It is the risk that a bank cannot easily liquidate a specific position (like selling a block of corporate bonds) without taking a massive "haircut" or discount on the price due to shallow market depth.
Statement 3 is incorrect: The Statutory Liquidity Ratio (SLR) mandate requires banks to hold highly liquid, risk-free government securities.
In a crisis, these securities can be easily sold or repo'd with the RBI for instant cash.
Therefore, a high SLR *decreases* funding liquidity risk by providing a mandatory safety cushion.