Financial Stability 1/2002

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4 Liquidity risk

Box:
- Counterparty exposure - monitoring systemic risk

Relatively stable financing in banks

Banks primarily use three funding sources to finance lending (Chart 4.1). Customer deposits, which can be looked upon as a stable source of financing, are the most important source. In March 2002, 64% of lending was covered by these deposits, which means that the deposit-to-loan ratio has increased slightly over the last six months. The bond market is another relatively stable funding source for banks. Bond funding has been rising since the end of 1999, and came to a little less than 19% of total bank lending in March this year. Money market financing is a short-term and hence somewhat more unstable funding source. Money market financing was reduced slightly over the last six months, and covered 23% of bank lending in March this year.

Chart 4.1

Chart 4.2 shows the size of stable financing sources (here defined as customer deposits, equity capital and bonds) as a percentage of banks’ illiquid assets (lending and fixed assets). Less stable financing and more illiquid assets result in a lower value for the indicator. A low value for this indicator therefore implies high liquidity risk. In general, a value of 100 implies that banks have balanced illiquid assets with stable funding sources.

Chart 4.2

Measured by this indicator, liquidity risk in the three largest banks is lower than in small and medium-sized banks. One reason that small and medium-sized banks have less stable financing is a lower level of borrowing in the bond market. For these banks, borrowing in the bond market may be more difficult than for large banks because such funding often requires a size that exceeds the borrowing needs of smaller banks. Unless they participate in a joint bond issue, they will rely more heavily on the short-term paper market, which is not defined as a stable source of financing in the indicator. However, the indicator is a better measure for analysing developments in financing strategy over time for each bank group than for comparing groups. Banks do not appear to have changed their strategy appreciably in recent years. The indicator has risen somewhat for both bank groups since September 2001, which in isolation implies lower liquidity risk than six months ago.

High net capital inflow to banks

Foreign sources account for a substantial portion of banks’ financing. Gross foreign debt has risen from NOK 67bn in 1993 to a good NOK 333bn in March 2001. The three largest banks in particular account for a high share of foreign borrowing (Chart 4.3).

Chart 4.3

Banks have recorded a large inflow of capital despite the fact that Norway as a whole has accumulated considerable foreign assets since 1993 (Chart 4.4). The securities market (equities, bonds, short-term paper, etc.) accounts for a fairly small share of capital intermediation in Norway. Enterprises largely cover their borrowing requirements by raising loans in banks. It is likely that it is relatively costly and difficult for many enterprises to borrow directly abroad inasmuch as few small and medium-sized Norwegian enterprises have a rating from international rating agencies. Moreover, direct foreign borrowing by Norwegian households is still at a low level as a result of the exchange rate risk and a lack of familiarity with foreign financial institutions. Domestic banks therefore play a key role as loan intermediaries in Norway. A large portion of household investments in financial assets have been channelled to securities funds and other financial institutions, which in turn have invested some of these funds abroad. Households and these financial institutions have accounted for a substantial portion of the net capital outflow since 1993. The central government invests the government budget surplus in foreign equities and bonds through the Government Petroleum Fund. The net capital outflow from enterprises, including the reconciliation sector, has generally varied around zero.

Chart 4.4

Norwegian banks’ gross debt is not particularly high compared with banks in other countries (Table 4.1). The gross debt of banks in Norway was lower than in banks in other Nordic countries in 2001. However, banks in other countries also have a higher share of foreign assets. Among the countries in the table, only Swedish banks have higher net debt than Norwegian banks. The comparison indicates that Norwegian and Swedish banks use the international interbank market to obtain financing to a greater extent than other countries’ banks.

Table 4.1

Slightly higher short-term foreign financing

Short-term (money market) financing from abroad may be a potential source of liquidity problems. This financing can be more volatile than equivalent domestic funding because foreigners normally react more quickly and more mechanically to changes in banks’ ratings. Turbulence in international financial markets may also induce foreign financial institutions to reduce their loans to Norwegian banks. The share of short-term foreign debt has been fairly stable in the three largest banks since 1997 (Chart 4.5). In the last six months, however, short-term foreign debt has edged up. Small and medium-sized banks have a much smaller share of foreign money market financing. Reduced uncertainty in financial markets compared with last autumn implies that the risk of problems in connection with foreign refinancing may be lower than earlier.

Chart 4.5

All in all, liquidity risk is considered relatively low and somewhat lower than six months ago.

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