Module: | MODULE B: RISK MANAGEMENT
Q429: Consider the following statements regarding the standard definitions of Liquidity Risk in banking operations:
1. Funding liquidity risk is defined as the inability of a bank to meet its expected and unexpected current and future cash flows without affecting its daily operations.
2. Market liquidity risk refers to a bank's inability to easily liquidate or offset a specific asset position without taking a massive discount due to inadequate market depth.
3. Call risk is defined exclusively as the inability to raise funds from the inter-bank call money market during a systemic crisis.
Which of the statements given above is/are correct?
2. Market liquidity risk refers to a bank's inability to easily liquidate or offset a specific asset position without taking a massive discount due to inadequate market depth.
3. Call risk is defined exclusively as the inability to raise funds from the inter-bank call money market during a systemic 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 operational definition, representing a bank's inability to efficiently meet both expected and unexpected cash outflows and collateral needs without adversely affecting its daily financial condition.
Statement 2 is correct: Market liquidity risk arises when a bank holds an asset but cannot easily sell it or offset the position because the market lacks depth or is severely disrupted.
The bank is forced to take a significant 'haircut' or massive discount to liquidate it.
Statement 3 is incorrect: Call risk has nothing to do with the inter-bank call money market.
In liquidity management, 'Call Risk' is strictly defined as the risk arising when contingent liabilities (like Guarantees or LCs) crystallize unexpectedly, or when depositors execute an unexpected mass withdrawal of their funds before the contracted maturity dates.
Statement 2 is correct: Market liquidity risk arises when a bank holds an asset but cannot easily sell it or offset the position because the market lacks depth or is severely disrupted.
The bank is forced to take a significant 'haircut' or massive discount to liquidate it.
Statement 3 is incorrect: Call risk has nothing to do with the inter-bank call money market.
In liquidity management, 'Call Risk' is strictly defined as the risk arising when contingent liabilities (like Guarantees or LCs) crystallize unexpectedly, or when depositors execute an unexpected mass withdrawal of their funds before the contracted maturity dates.