Liquidity Adequacy Assessment (ILAAP)

The Internal Liquidity Adequacy Assessment Process (ILAAP) replaces the former ILAA / ILSA documents as the risk report dealing with the Bank’s liquidity adequacy. Whereas much of the previous liquidity reporting framework for the ILAA was built around the FSA047/48 reports, the new liquidity regime is currently focused on the Liquidity Coverage Ratio (LCR).

Accordingly, the ILAAP must contain an explanation of how compliance with the LCR ‘Delegated Act’ will be maintained. However, LCR reporting being based on a snapshot of short-term (30-day) liquidity flows cannot fully capture all liquidity and funding risks and, in any case, the PRA regards the LCR as only a ‘Pillar 1’ standard.

This is reflected in the wider scope of the ILAAP that also includes:

  • Liquidity Risk & Inherent Funding Risk Assessments: Unlike the ILAA, these are expected to be analysed under separate sections of the document
  • Risk Management Framework, relating to liquidity and funding, covering internal governance, liquidity risk strategy & risk appetite, internal control framework, liquidity pricing as well as the Bank’s liquidity contingency plan
  • Liquidity Stress Testing with an explanation of approaches to sensitivity and scenario analyses as well as stress assumptions and results analysed by liquidity risk driver
  • Funding Plan, explaining how the bank’s business plan will be supported under both normal and adverse scenarios.

Recovery Plan

The Recovery Plan is the fourth of the key risk reports. Unlike the others which are intended for ongoing operations (under both normal and stressed conditions), the recovery plan contains a “menu of options” a bank would take to recover from severe conditions which otherwise would cause the Bank to fail.

The Plan must be capable of being implemented at any time. Clearly, to be effective arrangements must be in place in advance of any scenario crystallising. Recovery options identified by the Bank aim to have a material impact and be capable of implementation within an acceptable time period.

In addition to background information common to all reports, the Recovery plan is expected to include:

  • Governance and Activation of the Plan, including the use of early warning signals and activation indicators
  • Scenario Analysis based on stress tests relevant to a bank’s specific conditions and business model, including reverse stress tests to assist in identifying ‘near default’ conditions
  • Recovery Plan Options with a comparative study of options and analysis of their effectiveness, such as the impact on capital, liquidity and regulatory requirements
  • Disposals, Preparatory Measures and a Communication Plan.

The Recovery Plan is usually accompanied by a Resolution Pack upon submission to the Regulator, which includes a detailed analysis of activities (economic functions) and other information that would enable the authorities to identify the most appropriate resolution strategy for a bank.