1. How much financial strength information do central banks need?
How much financial strength information do central banks need? by
Claudio Borio*
Head of Research and Policy Analysis
Bank for International Settlements, Basel
Presentation for Norges Bank Conference on
“Banking Crisis Resolution – Theory and Policy”
Oslo, June 2005
Norway
* The views expressed are those of the author and not those of the BIS

2. Introduction: CBs and crisis resolution
Introduction: CBs and crisis resolution
Information needs vary with role …
CB is just one player in broader safety net
roles do differ considerably
… but one role in common: emergency liquidity assistance (ELA) 2

3. Three questions about ELA
Three questions about ELA
How do CB approaches differ?
What are the implications for information needs?
What are the key challenges/trade-off?

4. Highlight three points
Highlight three points
Absence of supervisory functions raises dilemmas for CBs in ELA
Should pay more attention to ELA and market distress
International issues loom large

5. Structure of remarks Why is question so relevant today?
Structure of remarks
Why is question so relevant today?
Clarify the definition of ELA
Examine the information needs for
ELA to institutions
ELA to markets
Raise some issues about the international dimension

6.
Why ask now?
Incipient trend towards loss of supervisory responsibilities
CBs one step further removed from source of information
Changing nature of liquidity demands
from “bank runs” to “market runs”
market distress can have systemic implications
this has implications for information needs

7. Definition of ELA Economic literature: ELA to …
Definition of ELA
Economic literature: ELA to …
D1: market as a whole (Thornton)
D2: individual institutions (Bagehot)
In practice it can be hard to draw the line between
liquidity to the market and to individual institutions
ELA and monetary policy implementation
My definition: requires …
… liquidity shortage that threatens or accompanies insolvency risks plus
… operation outside normal conditions (terms/collateral) plus
D1: no concern with possible failure of counterparty receiving funds
D2: concern with possible failure of counterparty receiving ELA

8. ELA to institutions: 3 stylised types of CB
ELA to institutions: 3 stylised types of CB
Type 1 (“prudent micro-prudential”)
ELA if and only if solvent but illiquid
Type 2 (“prudent macro-prudential”)
ELA like type 1 plus only if systemic risk
Type 3 (“never say never”)
ELA not ruled out if insolvent but systemic

9. ELA to institutions: information requirements
ELA to institutions: information requirements
Two kinds:
financial strength of institutions (1 + 2)
evaluation of systemic risk (2 + 3)
Prudential information necessary ( ) but not sufficient (for 2 + 3)
system-wide distribution of exposures
behavioural responses
Need to combine prudential information with payment & settlement system and market functioning information
 not easy!

10. ELA to institutions: choices of CBs without supervisory functions
ELA to institutions: choices of CBs without supervisory functions
Stylised choices:
rely on supervisor’s information
develop independent information
Without necessary tools, (b) is hard
Also raises interesting question
What if the CB judgement differs from supervisor’s?
 de facto loss of discretion

11. ELA to institutions: credibility issues
ELA to institutions: credibility issues
(1) and (2): credibility depends crucially on existence of alternative mechanisms to address systemic risk, without ELA
(2): credibility depends on ability to resist likely political economy pressures
issue of small versus large institutions

12. ELA to markets: what information?
Case 1:
clear that purely operational problems (eg. Y2K, 9/11)
Lend freely/possibly cut interest rates
need to go outside normal operational criteria depends on
surplus collateral
number and type of facilities
number of counterparties
eg. US vs euro area

13. ELA to markets: what information?
Case 2:
concerns about potential insolvency (eg. LTCM)
Key questions
need for more targeted action?
does CB have sufficient knowledge/leverage/legal powers to act?
 may require coordination with supervisors

14. ELA and the international dimension
Two specific additional concerns
one further step removed from information
misalignment of incentives? eg.
systemic in host but not at home
Implications
host CB in difficult position
coordination desirable, how hard in practice?

15. Reference
Borio, C (2004): “Market distress and vanishing liquidity: anatomy and policy options”, BIS Working Papers, no 158, July.