LCR Squeeze After a Corporate Deposit Withdrawal
At the close of business on 30 September, a scheduled commercial bank reports HQLA of ₹1,800 crore and net cash outflows of ₹1,500 crore over the next 30 days under the liquidity coverage ratio (LCR) stress. The LCR is therefore 120%, against the regulatory minimum of 100% and the bank's internal buffer of 110%. The next morning, a corporate depositor with a ₹300 crore operational deposit gives notice to withdraw the entire balance within five days. For internal stress testing, the bank treats this deposit as a 100% run-off. No other cash flows change on day one. The treasury head wants to restore the LCR to at least 110% before the next board risk committee meeting. Three proposals are on the table: (i) sell ₹200 crore of 10-year G-Secs and buy 3-month T-bills; (ii) raise ₹200 crore of 3-month interbank wholesale funding; (iii) sell ₹200 crore of non-HQLA corporate bonds and hold the proceeds as cash. The bank currently has no repo borrowings and does not want to rely on the RBI's marginal standing facility (MSF) for term funding.
1. Compute the LCR immediately after the withdrawal notice and the HQLA or outflow adjustment needed to reach 110%.
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LCR = HQLA / net cash outflows. Before the notice: 1,800/1,500 = 120%. The ₹300 crore corporate withdrawal is treated as a 100% run-off, so net outflows become 1,500 + 300 = ₹1,800 crore. HQLA is unchanged at ₹1,800 crore on day one, so LCR = 1,800/1,800 = 100%. To reach 110%: required HQLA = 1.10 × 1,800 = ₹1,980 crore, an increase of ₹180 crore; or maximum outflows = 1,800/1.10 = ₹1,636.36 crore, a reduction of ₹163.64 crore. The bank is at the regulatory minimum and below its internal 110% buffer.
2. Evaluate proposal (i): selling 10-year G-Secs and buying 3-month T-bills. Does it restore the LCR?
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No. Both the 10-year G-Sec and the 3-month T-bill are Level 1 HQLA with a 0% haircut under the LCR. If ₹200 crore of G-Secs is sold and reinvested in T-bills at the same value, total HQLA remains ₹1,800 crore and net outflows remain ₹1,800 crore, so the LCR stays at 100%. The swap may reduce duration and price risk and make the asset easier to repo, but it does not restore the buffer. Transaction costs would slightly reduce HQLA. Proposal (i) is a risk-management improvement, not an LCR fix.
3. Compare proposals (ii) and (iii) for restoring the LCR to 110%. Which is more reliable, and what risks must the treasury head manage?
Read the worked answer
Proposal (ii): raising ₹200 crore of 3-month wholesale funding adds ₹200 crore cash, a Level 1 HQLA. Because the liability matures beyond 30 days, it does not add a 30-day outflow in this simplified calculation. LCR = (1,800+200)/1,800 = 111.1%, meeting 110%. Risks: rollover risk, higher cost, and loss of market access in stress. Proposal (iii): selling ₹200 crore of non-HQLA corporate bonds and holding cash also raises HQLA by ₹200 crore, giving 111.1%, with no new rollover risk. Risks: fire-sale loss, settlement beyond the 30-day horizon, and loss of earning assets. Proposal (iii) is more reliable if the corporate bonds can be sold quickly at a fair price; otherwise (ii) is faster. A combination - sell ₹100 crore corporate bonds and raise ₹100 crore of 3-month funding - diversifies execution risk. MSF should be a last resort because it is overnight and not term funding.