An Introduction to Liquidity and Asset-liability Management
Monnie M. Biety
hen a formerly credit-only microfinance institution (MFI) starts raising voluntary savings and using those deposits to finance the loan portfolio, the liquidity and asset-liability management of the institution becomes more complex. The institution not only has to deal with the fluctuating demand and varying interest rates and terms on loans, but also with erratic deposit demands and withdrawals and changing interest rates and terms on savings. Liquidity and assetliability management in savings institutions requires a coordinated, planned approach.
Liquidity refers to the ...view middle of the document...
It takes a long time to build client relationships, a liquidity crisis can destroy those relationships instantly. In order to avoid a liquidity crisis, management needs to have a well-defined policy and established procedures for measuring, monitoring, and managing liquidity.
Liquidity Management Policy
A savings institution should have a formal liquidity policy that was developed and written by the officials with the assistance of management. The policy should be reviewed and revised as needed, no less than annually. The policy should be flexible, so that managers may react quickly to any unforeseen events. A liquidity policy should specifically state:
Who is responsible for liquidity management. What is the general methodology of liquidity management. How will liquidity be monitored or, in other words, what liquidity management tools will be used. What are the time frames to be used in cash flow analysis, the level of detail, and the intervals at which the cash flow tools used are to be updated. The level of risk that the institution is prepared to take in minimizing cash to enhance profitability. Specifically, the policy should establish minimums and maximums for total cash assets and for the amount to be kept on-site. How often decisions about liquidity should be reviewed, including: assumptions used to develop the cash flow budget, the minimum cash requirement as described in daily cash forecasting, and any of the established ratio targets. The signatory authority limits of the liquidity manager should excess cash be on deposit at another institution. Often liquidity decisions need to be made rapidly to avoid a crisis; therefore the liquidity manager should have some
authority. This authority should have limits; for example, another signature should be required for unusually large transactions. If liquid funds are not invested in another financial institution or other type of investment, then there should be very specific policies on how excess funds are to be handled, such as who has access to them and where they are to be kept.
Which assets are considered to be liquid. Established limits for the maximum amount to be invested in any one bank, to limit exposure to a bank failure. Who may access or establish a line of credit for short-term liquidity needs. What are acceptable reasons or scenarios for accessing the line of credit.
Liquidity and Asset-liability Management
Asset-liability management (ALM) is the process of planning, organizing, and controlling asset and liability volumes, maturities, rates, and yields in order to minimize interest rate risk and maintain an acceptable profitability level. Simply stated, ALM is another form of planning. It allows managers to be proactive and anticipate change, rather than reactive to unanticipated change. An MFI’s liquidity is directly affected by ALM decisions. Managers must always analyze the impact that any ALM decision will...