Chilean banks must plan for liquidity shortages

Banks operating in Chile will have to conduct stress tests and develop a contingency plan in case of a liquidity shortage under new rules issued yesterday by the country's central bank.

The financial institutions will also have to report their liquidity coverage ratio (LCR) and net stable funding ratio (NSFR) as the Central Bank of Chile moves towards the liquidity standards set out in Basel III.

From August 1, banks will have to adopt and implement a liquidity management policy that "should fully explain the level of liquidity risk tolerance of the institution, and include specific management strategies under normal operating conditions and under defined stress scenarios", the central bank said.

Under this policy, stress tests should be carried out on a quarterly basis "for those scenarios considered most relevant, given the structure of assets and liabilities, and the scale and complexity of its operations, and include possible effects on cashflow and on the liquidity position of the institution".

Banks should also have a "formal contingency plan", approved by the board, which establishes "clear and precise strategies" to adopt when facing a liquidity shortfall under relevant stress scenarios.

The new rules, subject to a public consultation between May and September 2014, "partially subscribe" to the Basel principles for liquidity risk management, the central bank explained. "These plans should be consistent with the results of stress tests, considering the complexity, risk profile and scale, growth and progression of the bank's operations," it noted.

Banks are required to calculate and report their LCR and NSFR for domestic and foreign currency combined, and also independently for foreign currency, on both an individual and consolidated basis.

At this stage, the central bank has decided to include these rules as "monitoring tools" and not as regulatory requirements for two reasons. Firstly, it said these indicators are "still under review" at an international level, so it "seems prudent to wait for the delivery of definitive standards and lessons from the experience of their application in banking in the G20". Secondly, this process will allow the authorities to make any local calibrations they see fit, and estimate the gaps between supply and demand for high-quality liquid assets.

"In this evaluation, it will be of utmost importance that banks and supervisors make a joint effort to build, in a very short term, robust information systems with the greater disaggregation and quality possible," the central bank added.

Considering the information currently available to the market from financial entities is insufficient, the central bank also stipulated that banks must publish "their individual liquidity situation and maturity mismatches" quarterly to improve "transparency and quality of information".

Once the new rules take effect, and after the Central Bank of Chile has received "the information requested with the quality and frequency expected for a period of at least one year", the institution will undertake studies "to amend the current regulatory limits", with one of the objectives being the establishment of a "limit for the LCR".