Funding Liquidity Risk: Definition and Measurement

35 Pages Posted: 21 Jul 2010

See all articles by Mathias Drehmann

Mathias Drehmann

Bank for International Settlements (BIS)

Kleopatra Nikolaou

European Central Bank (ECB)

Multiple version iconThere are 3 versions of this paper

Date Written: July 1, 2010

Abstract

Funding liquidity risk has played a key role in all historical banking crises. Nevertheless, a measure based on publicly available data remains so far elusive. We address this gap by showing that aggressive bidding at central bank auctions reveals funding liquidity risk. We can extract an insurance premium from banks' bids which we propose as measure of funding liquidity risk. Using a unique data set consisting of all bids in the main refinancing operation auctions conducted at the ECB between June 2005 and October 2008 we find that funding liquidity risk is typically stable and low, with occasional spikes, especially around key events during the recent crisis. We also document downward spirals between funding liquidity risk and market liquidity. As measurement without clear definitions is impossible, we initially provide definitions of funding liquidity and funding liquidity risk.

Keywords: Funding Liquidity, Liquidity Risk, Bidding Behavior, Central Bank Auctions, Interbank Markets

JEL Classification: E58, G21

Suggested Citation

Drehmann, Mathias and Nikolaou, Kleopatra, Funding Liquidity Risk: Definition and Measurement (July 1, 2010). BIS Working Paper No. 316, Available at SSRN: https://ssrn.com/abstract=1645261 or http://dx.doi.org/10.2139/ssrn.1645261

Mathias Drehmann (Contact Author)

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
CH-4002 Basel
Switzerland

Kleopatra Nikolaou

European Central Bank (ECB) ( email )

700 19th str
Washington, DC 20431
United States

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