Modeling Non-Maturing Demand Deposits: On the Determination of the Threshold of Separation Between Volatile and Stable Deposit Volumes

Abstract

This paper aims to develop a methodology for the estimation of the idiosyncratic confidence level inherent within the process of determining the threshold of separation between volatile and stable deposit volumes. The idiosyncratic confidence level must be reflective of the institution's specific risk preferences and liquidity risk management policies as anchored into the Principle 9 of the EBA (European Banking Authority) and BCBS (Basel Committee for Banking Supervision) recommendations. We develop the methodology by including the new liquidity constraints from the Basel III regulatory recommendations introduced in 2013 (LCR and NSFR). For the determination of the con fidence level we utilize these liquidity constraints given by their respective critical thresholds. Once the dynamics of the factor process including LCR and NSFR are estimated, the implicit con dfience level can be calculated. We further illustrate the application of the methodology via processing a data time series stemming from a fi ctional European savings bank. Furthermore, we point to other ancillary applications of these procedures in the financial risk management practices.