EBA analyses effect of the unwind mechanism of the liquidity coverage ratio

The European Banking Authority (EBA) published today a Report on the effects of the unwind mechanism of the liquidity coverage ratio (LCR) over a three-year period, from the end of 2016 to the first quarter of 2020. Overall, the empirical evidence does not support the hypothesis that the unwind mechanism has a detrimental impact on the business and risk profile of credit institutions.

As the EBA’s analysis shows that the specific impact of the unwind mechanism on the LCR is practically null, it is also not possible to affirm that it could have an effect on the stability and orderly functioning of financial markets.

Also at country level, the data suggests that the unwind mechanism would not lead to any specific effect on the LCR, except for one EU country.

As regards the possible impact on the functioning of the monetary policy, the Report, which is built under the assumption that the amount of central bank reserves has been substantially cut, shows that the specific effect of the unwind mechanism would be immaterial.

The EBA also analyses possible modifications to the unwind mechanism and the Report shows that their impact is limited as well.

Legal basis and background

This Report was drafted in accordance with Article 17(5) of the LCR Regulation, which mandates the EBA to report to the Commission, by 19 November 2020, on the technical suitability and possible unwarranted side effects of the unwind  mechanism envisaged in the computation of the LCR.

The empirical analysis is based on common reporting (COREP) data covering a sample of about 120 credit institutions in each year, representative of the 26 EU Member States and 2 EEA/EFTA states. Country data should be interpreted with caution, because differences in the representativeness of the sample across countries may affect data comparability.