CRA Liquidity Risk Management 3

Question 1

Liquidity transfer pricing (LTP) is used by banks primarily to:

Accepted Answer

Allocate the cost and benefit of liquidity to individual business lines, incentivizing behavior consistent with firm-wide liquidity risk appetite

Answer

Price customer loans in line with prevailing market benchmark interest rates

Answer

Determine the appropriate discount rate for valuing illiquid balance sheet assets

Answer

Set the internal hurdle rate for evaluating capital investment projects

Question 2

Early warning indicators (EWIs) for emerging liquidity risk typically include:

Accepted Answer

Rising interbank funding costs, increased reliance on central bank facilities, and accelerating retail deposit outflows

Answer

Increases in the bank's Tier 1 capital ratio above regulatory minimums

Answer

Improvements in the bank's return on equity and net interest margin

Answer

Reductions in the loan-to-deposit ratio below the internal target threshold

Question 3

A liquidity gap analysis is used to:

Accepted Answer

Identify mismatches between projected cash inflows and outflows across maturity time buckets

Answer

Measure the difference between a bank's stated risk appetite and its actual risk exposure

Answer

Quantify the gap between regulatory capital requirements and the bank's actual capital holdings

Answer

Measure the difference between the market value and book value of liquid asset holdings

Question 4

Encumbrance risk in liquidity management refers to:

Accepted Answer

The risk that pledged collateral reduces the pool of unencumbered assets available to monetize in a stress scenario

Answer

The risk that asset market prices decline due to broad market volatility

Answer

The risk of excessive counterparty concentration in the secured funding market

Answer

The risk that unexpected increases in regulatory capital requirements reduce investable capital

Question 5

In a secured funding transaction, the haircut applied to collateral primarily serves to:

Accepted Answer

Protect the cash lender by ensuring collateral value exceeds the loan amount, providing a buffer against price declines

Answer

Reduce the tax liability on the interest income earned by the cash lender

Answer

Increase the effective yield on the transaction for the cash-receiving borrower

Answer

Satisfy mandatory regulatory reporting requirements under applicable securities law

Question 6

The concept of 'liquidity hoarding' during systemic stress events refers to:

Accepted Answer

Financial institutions retaining excess cash balances and refusing to lend in interbank markets, amplifying the funding crisis

Answer

Central banks accumulating excess foreign exchange reserves as a precautionary buffer

Answer

Investors moving funds from equity markets into money market accounts to earn higher short-term yields

Answer

Banks increasing loan-to-deposit ratios to maximize net interest income during rising rate environments

Question 7

Which of the following most accurately describes the relationship between market liquidity risk and funding liquidity risk?

Accepted Answer

They can reinforce each other: inability to sell assets at fair value worsens funding, and funding stress may force asset sales that depress prices

Answer

They are independent risks with no material interaction during stress conditions

Answer

Market liquidity risk exclusively affects the trading book while funding liquidity risk affects only the banking book

Answer

Funding liquidity risk is entirely mitigated once a bank achieves LCR compliance above 100%