Net Stable Funding Ratio (NSFR)

In addition to Liquidity Coverage ratio (LCR), BCBS also introduced the Net Stable Funding Ratio (NSFR) to deal with post-crisis situation after the Great Recession of 2007-2008. While LCR aimed at short-term liquidity resilience for banks, Net Stable Funding Ratio (NSFR) was introduced as a standard requirement for banks to hold stable funding to cover the duration of their long-term assets. Like LCR, bank need to maintain a 100% ratio to satisfy NSFR requirements.

In Basel’s words, “The NSFR is defined as the amount of available stable funding relative to the amount of required stable funding.” This brings us to the formula representation of the proportion as below:

NSFR = Available amount of stable funding/Required amount of stable funding ≥ 100%

In the above formula, Stable funding is defined as “types and amounts of equity and liability financing expected to be reliable sources of funds over a one-year time horizon under conditions of extended stress”. The stable funding needed is more expensive and will drive down the profitability of bank’s lending activities. Potential impacts on banks and the financial industry can be foreseen:

  • Fewer loans sanctions or increase in interest rate to balance with profitability
  • When banks reduce their lending activities, other financial players may emerge. This will create a financial disintermediation
  • Since, banks would need more stable sources of funding, new issues of bonds and deposits can create recapitalisation
  • Some asset classes that will have more stable funding will be more preferable to banks than most other assets. This concentration in some assets to comply with Net Stable Funding Ratio requirements will create disbalance.