What is the Liquidity Coverage Ratio (LCR)?

About Liquidity Coverage Ratio (LCR):

• It refers to the proportion of highly liquid assets held by financial institutions to ensure that they maintain an ongoing ability to meet their short-term obligations (i.e., cash outflows for 30 days). 
  • 30 days was selected because, in a financial crisis, a response from governments and central banks would typically take around 30 days.
• It is intended to make sure that banks and financial institutions have a sufficient level of capital to ride out any short-term disruptions to liquidity. 
• LCR in banking resulted from the Basel III agreement, which is a series of measures undertaken by the Basel Committee on Bank Supervision (BCBS).
• In India, RBI issued Basel III liquidity guidelines in 2012.
• RBI implemented LCR in January 2015, and as per a circular in 2020, banks should maintain sufficient HQLA at all times to meet unexpected withdrawals.
• Calculation:
  • LCR = (High Quality Liquid Assets (HQLA)) / (Total net cash outflows over the next 30 calendar days)
  • Every asset that can be easily and instantly converted into cash at minimum or no cost of value is a HQLA.
  • These assets include cash, reserves with central banks, and central government bonds, which can easily be converted into cash. 
  • In India, all Statutory Liquidity Ratio (SLR) eligible assets, which need to be maintained by the banks as per the Banking Regulation Act, 1949, are permitted to be considered HQLA under LCR requirements if they are in excess. This helps maintain and optimise both liquidity requirements.