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Estimating financial institutions’ intraday liquidity risk: a Monte Carlo simulation approach

  • Carlos León


The most recent financial crisis unveiled that liquidity risk is far more important and intricate than regulation have conceived. The shift from bank-based to market-based financial systems and from Deferred Net Systems to liquidity-demanding Real-Time Gross Settlement of payments explains some of the shortcomings of traditional liquidity risk management. Although liquidity regulations do exist, they still are in an early stage of development and discussion. Moreover, no all connotations of liquidity are equally addressed. Unlike market and funding liquidity, intraday liquidity has been absent from financial regulation, and has appeared only recently, after the crisis. This paper addresses the measurement of Large-Value Payment System’s intraday liquidity risk. Based on the generation of bivariate Poisson random numbers for simulating the minute-by-minute arrival of received and executed payments, each financial institution’s intraday payments time-varying volume and degree of synchrony (i.e. timing) is modeled. To model intraday payments’ uncertainty allows for (i) overseeing participants’ intraday behavior; (ii) assessing their ability to fulfill intraday payments at a certain confidence level; (iii) identifying participants non-resilient to changes in payments’ timing mismatches; (iv) estimating intraday liquidity buffers. Vis-à-vis the increasing importance of liquidity risk as a source of systemic risk, and the recent regulatory amendments, results are useful for financial authorities and institutions.

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Paper provided by Banco de la Republica de Colombia in its series Borradores de Economia with number 703.

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Length: 30
Date of creation: Apr 2012
Date of revision:
Handle: RePEc:bdr:borrec:703
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  1. Clara Machado & Carlos León & Miguel Sarmiento & Freddy Cepeda, 2011. "Riesgo Sistémico Y Estabilidad Del Sistema De Pagos De Alto Valor En Colombia: Análisis Bajo Topología De Redes Y Simulación De Pagos," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE, May.
  2. Kenneth French & Martin Baily & John Campbell & John Cochrane & Douglas Diamond & Darrell Duffie & Anil Kashyap & Frederic Mishkin & Raghuram Rajan & David Scharfstein & Robert Shiller & Hyun Song Shi, 2010. "The Squam Lake Report: Fixing the Financial System," Journal of Applied Corporate Finance, Morgan Stanley, vol. 22(3), pages 8-21.
  3. Carlos Léon & Clara Machado & Freddy Cepeda & Miguel Sarmiento, . "Too-connected-to-fail Institutions and Payments System’s Stability: Assessing Challenges for Financial Authorities," Borradores de Economia 644, Banco de la Republica de Colombia.
  4. Morten L. Bech, 2008. "Intraday liquidity management: a tale of games banks play," Economic Policy Review, Federal Reserve Bank of New York, issue Sep, pages 7-23.
  5. Carlos León Rincón & Alejandro Reveiz, 2011. "Montecarlo simulation of long-term dependent processes: a primer," BORRADORES DE ECONOMIA 008277, BANCO DE LA REPÚBLICA.
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