Securing Required Liquidity in Essential Places
Nat Benjamin, the Executive Director of Financial Stability Strategy and Risk at the Bank of England, delivered a lecture at OMFIF, outlining key considerations for fostering a steady-state liquidity environment that supports both stability and growth.
In his speech, Benjamin stressed the importance of taking a holistic view, considering the normalization of central bank balance sheets alongside the evolving roles within the financial system, particularly the shift of liquidity provision from traditional banks to non-bank financial institutions (NBFIs).
The executive director highlighted the need for coherent monetary and regulatory frameworks. Policies should balance incentives so that individual institutions maintain adequate liquidity insurance while also supporting the liquidity of the whole financial system by lending in markets. This balance avoids excessive risk-taking but also keeps liquidity available and markets liquid both in normal and stressed conditions.
Benjamin also emphasized the importance of maintaining resilient funding markets. Funding markets should be sufficiently liquid and cheap during normal times to enable market depth, but must avoid encouraging unsustainable leverage that could destabilize the system under stress.
In addition, Benjamin recognised that liquidity risk management is primarily the responsibility of financial institutions, both banks and NBFIs. Banks should incorporate routine use of central bank lending facilities for liquidity management without stigma to improve effectiveness in times of stress. NBFIs must adopt prudent liquidity risk management practices, learning from past market instability episodes such as the 2022 Liability Driven Investment (LDI) crisis.
The speech also explored how these changes affect businesses' and households' access to essential financial services. Steady-state liquidity must ensure these flows remain robust and inclusive.
Benjamin called for closer collaboration between regulators, central banks, and the private sector to navigate these challenges effectively. The increased role of NBFIs within the financial system necessitates a comprehensive approach to managing systemic risks.
In conclusion, Benjamin's lecture underscores the importance of coordinated policy, prudent risk management by institutions, adaptability to structural financial changes, and maintaining market resilience to foster a stable and growth-supporting liquidity environment. His full speech at OMFIF delves deeper into the challenges and opportunities of fostering a steady-state liquidity environment.
AI can play a significant role in risk assessment and management within the finance industry, offering predictive analytics and data-driven insights to help make informed decisions that minimize risks.
However, the shift of liquidity provision from traditional banks to non-bank financial institutions (NBFIs) poses new challenges in ensuring a balanced approach to risk-taking and maintaining liquidity in both normal and stressed conditions.
