This lesson examines liquidity risk, including market liquidity and funding liquidity, as well as asset-liability management (ALM) risk. It covers the interrelationship between liquidity risks and systemic financial stability, as detailed in professional training programmes .

• Definition of Liquidity Risk: Liquidity risk occurs when transactions cannot be conducted at prevailing market prices, perhaps due to cash flow constraints . It encompasses both Funding Liquidity Risk (the ability to meet cash flow obligations) and Market Liquidity Risk (the ability to sell assets without significant price impact) .

• Liquidity Risk Management: Approaches for measuring and managing liquidity risk include stress testing, scenario analysis, and the use of liquidity buffers. Key tools include Funds Transfer Pricing (FTP) and liquidity-adjusted Value-at-Risk (LVaR) .

• Asset-Liability Management (ALM): ALM addresses the management of the maturity and interest rate mismatch between assets and liabilities. This is particularly important for financial institutions like banks and insurance companies. ALM techniques include gap analysis, duration analysis, and scenario analysis .

• Interest Rate Risk in the Banking Book (IRRBB): A specific focus in ALM is managing the risk that changes in interest rates will adversely affect a bank’s earnings or economic value .

• The ALM Committee (ALCO): The senior ALM committee is responsible for overseeing ALM strategies, managing interest rate and liquidity risk, and ensuring compliance with regulatory requirements .