Macroprudential stress tests under Basel III: The role of funding liquidity risk

Abstract

The thesis is composed of three main chapters each with an independent objective. The first inspects the main funding risk drivers employing a multivariate copula estimation. The second looks at the systemic liquidity risk asking whether macroeconomic fluctuations can trigger and create simultaneous liquidity shortages in banks’ funding position using agent based model(ABM). The third examines the funding liquidity risk’s procyclical behaviour to macroeconomic changes using a feedback mechanism. The findings of the three chapters, are as follow: Chapter 2, detects and quantifies the main funding liquidity risk drivers and shows that commercial banks’ Net Stable Funding Ratio (NSFR) substantially decreases when macroeconomic adverse conditions are applied. In Chapter 3 the results suggest that banks face simultaneous liquidity shortages when the economy’s agents operate under economic recession. Chapter 4 indicates that funding risk is pro cyclical to the macroeconomic fluctuations while large banks’ responses assist on withstanding substantial liquidity shortages when macroeconomic shocks are applied. This study contributes to the literature in three folds: 1) Introduces a new stress test scope by assessing funding liquidity risk and its interrelations with the macroeconomic environment. 2) Provides evidence on prudential policies by incorporating systemic liquidity risk in macro prudential stress test framework. 3) Measures funding liquidity risk pro-cyclical, by developing a second round effects mechanism.