Meet the Author

Lakshmi Balasubramanyan |

Research Economist

Lakshmi Balasubramanyan

Lakshmi Balasubramanyan is a research economist in the Banking Policy and Analysis Group of the Federal Reserve Bank of Cleveland. She is primarily interested in the industrial organization of banking, the impact of banking regulation on bank behavior, and real estate finance.

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Meet the Author

Patricia Waiwood |

Research Analyst

Patricia Waiwood

Patricia Waiwood is a research analyst in the Research Department of the Federal Reserve Bank of Cleveland. She joined the Bank in October 2011, and her work focuses on macroeconomics, financial economics, and banking.

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Economic Trends

Banks’ Liquidity Position

Lakshmi Balasubramanyan and Patricia Waiwood

Ensuring adequate liquidity is an integral part of a financial institution’s management. But how much liquidity is enough? A financial firm is considered liquid if it can obtain immediately spendable funds at reasonable cost exactly when it needs them.

In light of the 2008 financial crisis, new international banking regulations, notably those of the Third Basel Accord, pay close attention to banks’ liquidity. We make a high-level assessment of how banks’ liquidity positions have changed since 2009. (Note that the liquidity measures we discuss in this article are not necessarily the same as those the Basel Committee suggests. See this report for a discussion of the Basel measures.) Our sample includes state member, state non-member, and national commercial banks in the United States. For each quarter, our charts show averages across all banks in the sample.

The liquidity position of banks has been improving gradually since the end of the recession, partly because aggregate core deposits have increased. Core deposits are those made by customers in a bank’s general market area; they are a relatively stable source of funds for lending because they are less vulnerable than other funding sources to changes in short-term interest rates. (Core deposits are calculated as total deposits minus total time deposits of $100,000 or more minus total brokered retail deposits of $100,000 or less.) Between the first quarter of 2009 and the second quarter of 2013, core deposits relative to assets rose steadily from 65 percent to about 70 percent.

But are core deposits capable of funding loan growth? If not, banks would either have to curtail lending or dip into more costly sources to fund it. Neither one of these options is very desirable from a borrower’s perspective. A simple measure for capturing this is the difference between the growth rates of lending and core deposits. Since the end of the recession, this measure has been holding steady around zero, with the exception of a drop and rebound during 2012.

A red flag would rise on the liquidity landscape if banks were relying heavily on non-core funding to finance loan growth. This is not the case, according to a measure called the net non-core funding dependence ratio, which, as the name suggests, gauges how heavily banks rely on non-core funding. This measure has declined steadily from almost 20 percent since 2009:Q1.

Banks can tap another source of funds by selling securities, such as US Treasury bonds, on their books. Knowing this, we consider banks’ holdings of US Treasury securities. Though banks’ holdings have been somewhat volatile, they have increased gradually. Starting at just under $200 million in 2009:Q1 and standing at just under $300 million in 2013:Q2, the gradual increase is a plus, albeit a small one, in our assessment of banks’ liquidity.

According to the Bank for International Settlements, during the early phase of the financial crisis, many banks—despite adequate capital levels—experienced difficulties because they did not manage their liquidity prudently. The crisis drove home the importance of liquidity to the proper functioning of financial markets and the banking sector to the Basel III participants. Our basic analysis of banks’ liquidity position shows that, on average, banks have improved in managing their liquidity.