Andreas Bohn and Marije Elkenbracht-Huizing

Asset and liability management (ALM) in banking is generally seen as a function which manages risks inherent in the balance sheet. Depending on the business model, the function may cover interest rate risk management and also liquidity risk management. The ALM function may also be charged with the overall balance-sheet management of the firm. Recent and upcoming regulatory changes to the management of interest rate in the banking book as well as liquidity provide a new framework for modern ALM, which has to face several challenges.

The Basel III regulations to be implemented over the decade from 2010 have developed liquidity risk management into a discipline of its own, with a strong focus on contingent funding needs in addition to regular going-concern funding needs. Furthermore, requirements for term funding and balance-sheet size have been established. The Basel III regulations address banks’ balance sheets in an integrated way because risk management needs to focus on both banking books and trading books. More demanding capital rules are being implemented; thus, the funding component of capital is playing a more important role.

The next major development to be reflected in

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