Central banks and international liquidity: A call for action

Abstract

International banks frequently face liquidity mismatches, having enough cash and securities available but in the ‘wrong’ currency or in the ‘wrong’ country. Banks need to solve such liquidity mismatches promptly. Otherwise they may develop into overall liquidity (or even solvency) problems. In times of financial turmoil however, the channels for distributing liquidity across borders — and especially cross-currency areas — may become impaired. Cross-currency area central bank arrangements can then provide solutions and safeguard financial stability. Such arrangements are more necessary now than in the past due to recent trends in international liquidity, the emergence of fast communication technologies (so that banks have less time to find solutions) and more frequent ring-fencing by national supervisors. This paper elaborates on the different solutions and their pros and cons from a central banker’s perspective. It argues that a logical first step for central banks is to accept foreign cash as collateral. In the longer run foreign securities could be accepted as well (eg starting with high-grade sovereign debt or LCR-eligible assets). Preferable operational arrangements would be correspondent relationships or guarantees among central banks. A common global cash pool would raise collateral efficiency, but central banks need to examine the financial stability implications.