## EXECUTIVE SUMMARY ## Source details **Canonical URL:** [EXECUTIVE SUMMARY](https://www.imf.org/-/media/files/publications/cr/2022/english/1chlea2022004.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2022/english/1chlea2022004.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2022/english/1chlea2022004.pdf.json) --- ### INTRODUCTION - Focus: systemic liquidity issues and safety nets in Chile. - Review evaluated the Banco Central de Chile’s (BCCh) operational framework and its ability to address systemic and idiosyncratic liquidity shocks, and assessed the functioning and resilience of key funding markets in Chile. - Organization: - Section I: main liquidity risks and functioning/resilience of liquidity markets. - Section II: systemic liquidity risk management framework, with focus on BCCh monetary policy operational and collateral frameworks. - Section III: lender-of-last-resort framework. ### LIQUIDITY RISKS AND MARKET STRUCTURE — A Highly Interconnected Financial System - Structure and vulnerabilities - Large domestic non-bank financial sector (pension funds, mutual funds, insurers) creates a large investor base for domestic debt securities but is vulnerable to shocks with significant spillovers to funding markets and the banking system. - On aggregate, retail deposits account for about half all total liabilities of the banking system; the other half comprises mutual funds, pension funds and bank deposits, locally issued and externally issued bonds, external loans, and, since 2020, sizeable central bank refinancing. - Pension funds are the largest buyers of bank bonds; as of [September/October 2020], pension funds held about 46 percent of outstanding bank bonds and mutual funds held about 51 percent of time deposits. - Heterogeneous effects and concentration risks - Medium-sized banks are generally more reliant on wholesale funding and are more vulnerable to liquidity risks than larger banks that rely on larger bases of stable retail deposits. - Significant counterparty concentration in product categories (bank bonds, time deposits) can expose banks to spillovers from shocks affecting the non-bank financial sector. - Shocks affecting mutual funds disproportionately impact banks that rely significantly on term deposits, in particular medium-sized banks. - Portfolio shifts during crises - Social turmoil in 2019 and the COVID-19 pandemic in 2020–2021 caused large portfolio shifts in the non-bank financial sector: waves of redemptions from mutual funds, three extraordinary pension funds withdrawals, shortening of maturities, and increased dollarization. - Non-bank institutions tend to sell domestic bank bonds and increase holdings of foreign securities perceived as more liquid (USD), and funds shifted from longer-term fixed-income funds into money market funds. - Massive selling pressure on domestic bank bonds led to a surge in bank bond spreads and several central bank interventions to prevent a major rise in bank funding costs. - A significant share of funds withdrawn from pension funds flowed into the banking sector as term deposits. - Market liquidity characteristics - Market liquidity in domestic private debt securities is limited, causing large spread sensitivity to external shocks. - Domestic bank bond yields are more sensitive to shocks than sovereign bond yields; domestic corporate bonds are even more vulnerable due to very limited liquidity. - Insurers are major investors in corporate bonds with a typical buy-and-hold strategy. - Cross-border issuance - Some banks are seeking to expand bond issuance abroad to diversify investor base; initiatives appear limited to first-tier, large banks. ### LIQUIDITY RISKS AND MARKET STRUCTURE — An Incomplete Money Market - Structure of the interbank market - The interbank money market is almost entirely unsecured; interbank transactions take place mostly without collateral and are subject to the regulation on provisions. - Access to bank excess liquidity is costlier and more difficult for smaller banks; in crisis times many smaller banks prefer accessing BCCh liquidity operations. - Role as shock absorber - The unsecured money market is an important, though insufficient, shock absorber for small liquidity shocks. - Autonomous factors result in a significant, structural liquidity surplus. BCCh absorbs a significant share of the liquidity surplus on long maturities through issuance of long-term PDBC (Central Bank of Chile notes). - The unsecured money market is very vulnerable to confidence shocks and appears insufficient against larger shocks. - Fragmentation and trust dependence - In the absence of collateralized transactions, the money market’s effectiveness depends on trust between counterparties. - The absence of a secured interbank market means any surge in money market fragmentation leads to a need for central bank funding; in other jurisdictions increases in perceived bank credit risk may be accommodated by collateral. ### CENTRAL BANK INTERVENTIONS AND COLLATERAL FRAMEWORK - BCCh crisis-era responses - In 2019 social turmoil and the COVID-19 pandemic in 2020–2021, the BCCh introduced unconventional liquidity measures including targeted long-term refinancing operations, significant expansion of eligible collateral (to bank bonds, corporate bonds, and credit claims), cash purchases/forward sales of bank instruments from non-bank financial institutions, foreign exchange swaps, and relaxations of regulatory liquidity requirements. - Those measures were largely effective in dealing with extraordinary macroeconomic shocks but caused a massive increase in the central bank’s balance sheet and excessive risk-taking. - Need for a more conservative steady-state collateral framework - A return to the very narrow pre-crisis collateral framework is not deemed justified. - The BCCh’s future steady-state collateral framework should incorporate more prudent haircuts and other risk control measures. - Risk equivalence should be the guiding principle for calibration of risk control measures, leading to greater differentiation across eligible assets based on identified risks. - Haircuts should be conservative enough to protect the central bank against losses from liquidation of assets following a counterparty default. - Acceptance of bank bonds as collateral should be limited to crisis times, with strict limits. - Move from current earmarking system to a pooling system would simplify collateral management; this would require some legal adjustments. - Reinforce the role of the risk management function in the design and implementation of monetary policy measures. ### EMERGENCY LIQUIDITY ASSISTANCE (ELA) AND LENDER-OF-LAST-RESORT FRAMEWORK - Rationale for ELA framework - An effective ELA framework would help the BCCh use system-wide liquidity measures more parsimoniously by addressing residual idiosyncratic liquidity stressed situations and facilitating gradual unwinding from system-wide unconventional measures. - Cooperation and operationalization - Finalization and implementation of the ELA framework will require close cooperation between the central bank and the banking supervisor, formalized in a Memorandum of Understanding (MoU) between the BCCh and the Financial Markets Commission (CMF). - Significant technical work is required to operationalize ELA: preparation of an ELA Regulation, ELA internal procedures, an ELA Master Agreement, and a funding plan template. - Operationalization tasks include solvency and viability assessments, ELA accountability and communication, and ELA simulations. ### TABLE OF RECOMMENDATIONS (HIGHLIGHTS) - Interbank repo market (Authorities: BCCh/CMF) - Set up a working group with market participants on development of the interbank repo market, and consider expanding discussion with non-bank financial institutions — Near-term. - Define a strategy for repo market development, including improving infrastructures and setting appropriate incentives — Medium-term. - Organize interbank repo tests in real conditions — Medium-term. - Collateral framework (Authority: BCCh unless noted) - Define a more conservative haircut schedule, based on risk equivalence — Near-term. - Define additional risk control measures for bank bonds collateral — Near-term. - Define a steady-state collateral framework, with eligibility extended to all marketable assets meeting minimum credit requirements, and excluding bank bonds — Near-term. - Reflect recommendation against holding bank bonds in purchase program implementation and begin unwinding current holdings — Medium-term. - Move from collateral earmarking to pooling — BCCh/MoF — Medium-term. - Publish the revised collateral framework — Medium-term. - Regularly assess eligible collateral encumbrance and availability — Medium-term. - Reinforce the role of the risk management function in the design and implementation of monetary policy measures — Medium-term. - Emergency Liquidity Assistance (Authorities: BCCh/CMF/MoF) - Prepare an ELA Regulation, including all requirements for access to ELA, the ELA interest rate, and the maximum maturity of an ELA loans (2 weeks) — BCCh — Near-term. - Prepare ELA procedures, including a priority order and risk control measures for ELA collateral — BCCh/CMF — Near-term. - Finalize the MoU between the central bank and the banking supervisor — BCCh/CMF — Near-term. - Prepare an MoU between the central bank and the Ministry of Finance — BCCh/MoF — Medium-term. - Prepare an ELA Master Agreement — BCCh/CMF — Near-term. - Prepare a funding plan template — BCCh/CMF — Near-term. - Operationalize the solvency and viability assessments — CMF — Near-term. - Prepare for ELA accountability and communication — BCCh/CMF — Near-term. - Prepare for ELA through simulations — BCCh/CMF — Near-term. - Timing definitions: - Near-term: within 12 months. - Medium-term: within 1 to 2 years. ### CONSEQUENCES OF THE ABSENCE OF AN INTERBANK REPO MARKET - Liquidity shocks that could be mitigated by a secured interbank market instead require earlier and more frequent central bank interventions. - Secured interbank markets act as a second “line of defense”: collateral protection supports continued circulation of liquidity between banks. The euro area transitioned from significantly unsecured to predominantly secured since the Great Financial Crisis of 2007–2009 and remained so, supporting interbank liquidity in episodes such as 2011–2015 and in 2020. - In Chile, the absence of this shock absorber means the BCCh is more likely to intervene to address liquidity shocks that private backstops could otherwise accommodate. - The absence of a repo market has led to a more aggressive monetary policy response to systemic liquidity shocks (social turmoil of 2019 and COVID-19 pandemic in 2020–2021), resulting in: - A massive expansion of the BCCh balance sheet. - Significant risk taking by the BCCh. - A more complete money market with an active secured segment would likely have reduced the need for central bank interventions and allowed the BCCh to be as effective with a less significant balance sheet expansion and less risk taking. ### TOWARDS AN INTERBANK REPO MARKET — RATIONALE AND BENEFITS - Collateral market fluidity should match savers’ flexible asset allocations (shifts between pension funds, mutual funds, bank deposits), which currently can cause massive portfolio shifts and impact bond spreads and banks’ funding costs. - An active interbank repo market would: - Reinforce private backstops and reduce need for public intervention. - Incentivize the use of locally-denominated assets instead of foreign currency debt during liquidity stress by allowing domestic debt securities to be used as collateral. - Support monetary policy transmission by enabling a greater differentiation in maturities (e.g., up to 3 to 12 months), developing the term money market and a more complete money market curve to better calibrate BCCh liquidity management. - Chile has sufficient high-quality collateral: - Liquid domestic sovereign debt as a likely first source of collateral. - Notes issued by the BCCh (PDBC) as complementary very high-quality assets. - Bank bonds could be used, but require more conservative risk control measures due to correlation risk with borrower default. - Development of a secured market could strengthen corporate bond market liquidity and transparency. ### INFRASTRUCTURE, INCENTIVES, AND RECOMMENDED BCCh ACTIONS TO FOSTER A REPO MARKET - Required infrastructures: - Technical: electronic trading platforms, securities settlement systems with delivery vs. payment. - Legal: legal framework for secured transactions, master repurchase agreement. - Incentives: - Profitable opportunities, better risk management via market transactions, regulatory and reputational drivers. - Perception that BCCh will provide liquidity backstops (reinforced by 2019–2020 interventions) reduces market incentives to develop secured interbank lending. - Some medium-sized banks rely solely on BCCh for liquidity rather than participating in money markets. - Recommended BCCh measures: - Accelerate and formalize assessment of root causes for the absence of an interbank repo market in close cooperation with market participants. - Consider formalizing work via a working group with relevant market participants (banks and central clearing counterparties) to define and implement an action plan to develop an interbank repo market; examine the role of non-bank financial institutions beyond the interbank perimeter. - Objective: a broad strategy including infrastructure improvements and incentive design. Possible incentive measures include: - (i) Preferential regulatory treatment of secured lending operations vs. unsecured loans. - (ii) Sufficiently penalizing conditions (e.g., high interest rates, conditionality) for central bank backstops (Permanent Liquidity Facility (FPL), Emergency Liquidity Assistance (ELA)). - (iii) Requirement for funding plans for banks relying excessively on central bank funding. - (iv) Restrictions on the use of bank bonds as collateral with the central bank. - (v) Countering expectations for aggressive central bank interventions when small liquidity shocks occur. - (vi) Gradual unwinding of central bank unconventional measures once they are not needed any longer. - (vii) Assessing the appropriateness of the width of the currently narrow corridor of standing facilities. - Organizing interbank repo tests in real conditions (for small, symbolic amounts) under BCCh supervision may help banks gain confidence and understand the business case for secured interbank credit lines. ### CENTRAL BANK OPERATIONAL FRAMEWORK FOR SYSTEMIC LIQUIDITY SHOCKS — KEY ELEMENTS - Main objective of BCCh liquidity management: implementation and transmission of monetary policy under an inflation-targeting regime and a floating exchange rate, committed to use its instruments so that annual CPI inflation fluctuates around 3 percent; operational goal is an annual projected inflation of 3 percent over a two-year policy horizon. - Chilean banking system features a structural significant liquidity surplus reflecting the accumulation of foreign reserves; BCCh absorbs excess liquidity to transmit policy. - Reserve and technical reserve requirements: - Reserve requirements: percentage of time deposits currently 3.6 percent and of demand deposits currently 9 percent, fulfilled on average monthly over maintenance period from the 9th day of one month to the 8th of the next. - Technical reserves: must be fulfilled for total deposits exceeding a multiple currently 2.5 of bank capital; must be constituted through deposits at the central bank or in securities issued by the central bank or by the State. - Note: “effective capital” considered (i.e. 8 percent of risk-weighted assets and the systemic risk buffer up to 3.5 percent of risk-weighted assets). - BCCh instruments to absorb excess liquidity: - Issuance of central bank notes (PDBC) with maturities ranging from 7 to 360 days and longer-term central bank bonds denominated in Chilean pesos (BCP) and Unidad de Fomento (UF) (BCU). - Since 2015 the BCCh has only issued PDBC. BCP and BCU have not been issued recently; latest issuances: BCP in August 2016 and BCU in September 2013. - BCCh publishes an issuance program every month and a debt plan at the beginning of each year. - Overnight rate framework: - BCCh aims to maintain the overnight interbank rate around its Monetary Policy Rate (MPR). - Narrow corridor of standing facilities: FPD rate set at MPR minus 25 basis points; FPL rate set at MPR plus 25 basis points. - A wider corridor would reinforce incentives for interbank activity. - Historically, deviations between overnight interbank rate and MPR were negligible in calm times; persistent deviations exceeding 15 basis points observed during the Great Financial Crisis of 2007–2009, the social turmoil in 2019, and the COVID-19 pandemic in 2020–2021. - Crisis responses and balance sheet expansion: - BCCh cut the MPR from 3 percent to 0.5 percent (effective lower bound) in response to 2019 and 2020–2021 shocks. - BCCh temporarily suspended issuance of central bank notes and conducted buybacks of BCP and BCU to increase banks’ reserves. - Intervened in the foreign exchange market and set up foreign exchange swaps to provide U.S. dollar liquidity; initial swap maturities of 30 and 90 days, then 180 days. - Combined with regulatory forbearance (suspending maturity mismatch requirements), longer-term refinancing operations helped mitigate funding stress. - Targeted refinancing: Financing Facility Conditional on Increased Lending (FCIC) provided long-term loans with a maturity of four years at the MPR, with maximum take-up linked to each bank’s credit provision or credit growth; BCCh significantly expanded eligible collateral for this operation. ### SIGNIFICANT BANK TAKE-UP AT THE FCIC — FUNDING SHIFTS AND IMPLICATIONS - The FCIC has been attractive to banks in its successive forms, and also in its latest modalities (FCIC3), which aimed at facilitating the funding of refinancing operations of well-performing and guaranteed loans. - Banks’ reliance on this four-year, cheap, central bank funding has helped them deal with reduced demand for bank bonds and time deposits. - Central bank refinancing has compensated for a decrease in time deposits and bank bonds, or reduced banks’ needs for those funding sources. - The share of bank bonds (held in particular by pension funds) and time deposits (held in particular by mutual funds) has declined in the banking system’s liabilities structure. - BCCh purchase programs and CCVP - Purchases of time deposits and longer-term bank bonds by the BCCh helped mitigate upward pressures on bank bond spreads and facilitate portfolios reallocation. - The BCCh lifted the maximum maturity (initially five years) on the bank bonds targeted by its purchase program to accommodate investors’ preference for liquidity. - By buying longer-term, relatively illiquid bank bonds, the BCCh accommodated significant portfolio shifts in the non-bank financial sector, in particular withdrawals from pension funds and fixed-income mutual funds. - The BCCh set up a special cash purchase/forward sale program (CCVP) to facilitate the extraordinary pension fund redemptions of 2020. - Through CCVP, the BCCh implements direct cash purchase of bank bonds, and sells them forward to the same counterparty at a term of one or three months. - CCVP is accessible to participants in the Open Market Operations System (SOMA), including non-bank financial institutions such as pension funds. - The CCVP helped mitigate the risk of fire sales by pension funds and facilitated portfolio rebalancing while containing impacts on bank funding costs. - The Superintendency of Pensions relaxed investment limits on certain counterparties and instruments, supporting the effectiveness of CCVP. - A 2020 constitutional and legal amendment allows the BCCh to purchase State debt securities in the secondary market, in case of market stress and financial instability, under a qualified decision of its Board, adopted by 4 of its 5 members. - Aggressive forward guidance by the BCCh, anchored to the MPR, has contributed to the effectiveness of its unconventional monetary policy measures. - Risks, market functioning, and exit challenges - The BCCh has become a major lender to the banking system through the FCIC, the CCVP and bank bond purchases; a significant portion of this central bank funding has long maturities (for instance FCIC loans have a four-year term). - Significant shifts in banks’ liabilities may have long-term effects on market functioning and liquidity: - Primary bank bonds issuances and secondary market turnover for bank bonds have declined significantly since the start of central bank purchases. - Too prolonged access to cheap central bank funding might discourage some banks from resorting to other funding sources, complicating the unwinding of unconventional liquidity measures. - In a banking system characterized by a structural liquidity surplus, central bank funding cannot be a major funding source beyond crisis times; active, liquid, complete (i.e., also secured) markets should be a primary policy objective. - Some unconventional measures (notably FCIC) aimed at avoiding a credit crunch and could not be fully substituted by an interbank repo market, although an interbank repo market could help absorb part of liquidity shocks through secured reallocation of excess reserves. - Significant bank bond purchases expose the BCCh’s balance sheet to systemic risks: - Holding unsecured bank bonds is akin to unsecured lending to banks and raises idiosyncratic and systemic default risk exposures. - The risk control framework for the bank bond purchase program was insufficient (insufficient haircuts, no issuer concentration limit). - A more cautious approach is justified, e.g., replacing activated-at-counterparties facility by fixed-size operations launched at the BCCh’s initiative, and timely discontinuation of purchases, possibly before other unconventional measures. ### COLLATERAL FRAMEWORK: CURRENT STATE AND RECOMMENDATIONS - Pre-crisis eligibility: - Until the 2019–2020 crisis, eligible collateral was limited to debt securities issued by the BCCh and by the State. - Crisis-driven expansion: - The BCCh broadened asset eligibility for the FCIC to corporate bonds, bank bonds, time deposits, commercial paper, well-performing bank loans as well as larger commercial portfolios, with a State guarantee required for bank loans under a quality threshold. - The Government expanded its Small Business Guarantee Fund (FOGAPE) with a ten-fold increase in the volume of guarantees; the cap on sales for eligibility was increased from USD 1 million to USD 40 million a year; the cap on credit-loss coverage was set at 15 percent. - Acceptance of State guaranteed loans as collateral and reduction of credit risk weights for State-guaranteed loans contributed to resilience of bank credit provision during the pandemic. - Strategic considerations: - The “optimal” perimeter of a central bank collateral framework may differ across central banks depending on the structural liquidity position of the banking system, development of local capital markets, and systemic liquidity risks. - Arguments for a narrow framework include limited complexity in risk control and avoidance of moral hazard; arguments for a broad framework include diversification, reducing collateral scarcity risk, avoiding privileged treatment of issuers, and supporting a sufficiently effective liquidity framework. - Overall, a larger collateral framework than the BCCh’s pre-crisis framework seems appropriate in Chile given the development of capital markets for private debt securities. - Eligibility recommendations: - The BCCh should expand collateral eligibility to all marketable assets complying with minimum credit requirements; corporate bonds meeting minimum credit requirements should be considered eligible also in normal times. - Additional restrictions could include minimum outstanding amounts and operational requirements (e.g., issuance in dematerialized form according to Chilean Law, eligibility at the local CSD and/or ICSD). - Bank bonds and related-party mobilization: - Bank bonds raise specific risks and should be ineligible in normal times, or subject to very strict risk control measures in crisis times (e.g., issuer limits). - Central banks typically prefer bank-issued bonds with a second layer of protection (e.g., ABS, covered bonds, State guarantees); in the absence of securitization in Chile, BCCh should adopt a conservative approach to bank bond eligibility. - The mobilization of bank bonds by related parties should be prohibited to avoid cross-holdings and circular arrangements; strict safeguards and a strict prohibition on bonds issued by related parties are needed. - The Eurosystem example: restricts use of uncovered bank bonds to unrelated parties and caps to 5 percent of the collateral pool of each counterparty the uncovered bank bonds of each group of related banks. - Risk control and haircuts: - Current BCCh risk control framework deficiencies: - No haircut on debt securities issued by the State and the central bank. - A 10-basis point risk premium adjustment (added to the discount rate) to bank-issued debt (bank bonds, time deposits). - A 30-basis point adjustment to corporate bonds. - A 50-basis point adjustment to commercial paper. - A uniform 10 percent haircut applies to bank loans of the risk categories A1 to A6, eligible as collateral for the FCIC. - Some concentration limits apply to bank loans collateral pools, but no general issuer limit. - The framework is relatively simplistic and insufficiently conservative; a more differentiated approach is warranted. - A more conservative, differentiated haircut schedule should better protect the BCCh’s balance sheet: - Haircuts should be conservative enough to protect against (i) valuation mistakes, (ii) possible exogenous drop in assets’ value during liquidation, and (iii) negative effects of the bank’s default on asset values. - Haircuts should reflect varying market volatility, liquidity, and correlation risk. - A haircut add-on system could reflect credit risk, liquidity risk, and maturity risk. - Risk equivalence should be the guiding principle: haircuts should ensure equal risk from the central bank’s perspective across eligible assets and avoid adverse selection by banks. - Well-calibrated haircut add-ons should reflect heterogeneous liquidity risk across asset classes; greater haircut differentiation would help prevent adverse selection and provide better pricing for illiquidity risk. - Haircuts on credit claims should be much higher and differentiated across risk categories and based on the existence or absence of a State guarantee: - Current uniform 10 percent haircut is likely insufficient and could fuel adverse selection. - Differentiation should consider risk categories (A1 to A6), presence of State guarantee (A5 and A6 loans are eligible only when they include a State guarantee), and ideally a credit risk assessment of debtors. - Combining supervisor loan risk classification with external or internal measures of corporate debtors’ financial soundness would better protect the central bank. - The current haircut is unlikely to protect the BCCh against a large drop in value of a defaulted bank’s loan portfolio given illiquidity and risks (e.g., strategic defaulting). ### RISK-CONTROL MEASURES, COLLATERAL MANAGEMENT, AND INSTITUTIONAL DESIGN - Relaxation of risk control measures should remain exceptional and contained; it should not be seen as a standard response to liquidity shocks. - Central banks may legitimately revise risk tolerance in a systemic crisis but must continuously ensure collateral frameworks provide appropriate protection to their balance sheet. - Preference should be given to other unconventional measures (e.g., liquidity injections and expansions of the collateral framework) over relaxations of risk control measures; example cited: BCCh actions during the 2019 social turmoil and the COVID-19 pandemic. - Haircut relaxations should remain exceptional and contained. - Relaxation of margin calls should generally not be used as an unconventional policy measure because lowering the trigger point for margin calls might expose the central bank to the risk of losses in case of counterparty default. - Complementary risk control tools and institutional design: - Combine a revised haircut schedule with additional risk control measures to give sufficient flexibility for calibrating risk during significant balance sheet expansion. - Possible additional measures include: - Stricter rules (or a prohibition) for unsecured bank bonds and collateral issued by related parties. - Concentration limits for individual issuers. - Rules ensuring sufficient diversity in collateral pools. - The BCCh could publicly communicate about a more complete risk control “toolkit” than its current haircut schedule to set incentives for appropriate bank behaviors and preparedness for liquidity shocks. - The BCCh’s Corporate Risk Department reports directly to the Board and should have a reinforced and formalized leadership role in the design and calibration of risk control measures so no unconventional measure is designed without its input. - The collateral framework should be a “co-production” between market operations and risk management departments, reflecting its dual nature: protecting the central bank’s balance sheet while achieving monetary policy goals. - Collateral management: earmarking versus pooling - Collateral earmarking currently applies to BCCh liquidity-providing operations, with the range of eligible collateral specific to each operation (e.g., the FCIC has its own eligibility rules). - Earmarking complicates collateral management for banks and the central bank because collateral is assigned to specific operations rather than pooled on a single counterparty account. - Transition to pooling could facilitate collateral mobilization: - Pooling allows a bank to preposition eligible collateral for all refinancing obtained from the central bank (monetary policy operations, lender-of-last-resort, intraday credit). - Any asset in the pool can be used as long as the value of the remaining collateral pool (after haircuts) exceeds the value of total credit outstanding. - Pooling significantly facilitates collateral management for banks and the central bank and fosters market liquidity for eligible assets. - Currently pooling applies only to the FCIC operations. - A move to pooling would require adjustments to the legal framework. - Legal constraint noted: For pledged collateral to be enforceable under current Chilean legislation, each instrument must be individualized and marked as pledged; it is not possible to pledge an entire account (or pool of assets) establishing a “floating charge” under the current legal framework. - Transparency, review, and monitoring of collateral framework - The BCCh could improve transparency by communicating on its steady-state collateral framework during the gradual exit from unconventional measures. - The steady-state framework could be broader than the pre-crisis framework, include a single list of eligible collateral (with pooling), and a more complete risk control toolkit. - Once finalized, it could be published on a specific section of the BCCh’s website (including an updated list of eligible securities), with regular updates to keep market participants abreast of changes. - The collateral framework should be reviewed at a regular frequency, for instance every two years. - Revisions may include changes in eligibility requirements, adjustments to the haircut schedule, and other risk control measures. - Regular review is important to ensure continued verification of risk equivalence as the balance of risks across eligible asset classes may change over time. - Studying banks’ collateral mobilization strategies regularly helps identify possible adverse selection, which generally hints at a possible violation of risk equivalence and thus a need for adjustments. - The BCCh should integrate monitoring of banks’ overcollateralization into liquidity monitoring: - The BCCh already monitors banks’ balance sheets and liquidity positions on a daily basis and communicates regularly with banks’ treasurers. - Reinforce monitoring through assessments of eligible collateral availability, sufficiency, and encumbrance on a regular basis. - Based on revised eligibility rules and haircuts, calculate each bank’s maximum refinancing capacity regularly. - A comparison between each bank’s current central bank refinancing and its maximum refinancing capacity would indicate system-wide and idiosyncratic liquidity risks. - BCCh crisis experience and internal decision-making - BCCh’s experience during the crises in 2019–2021 suggests a preference for effectiveness at the cost of significant risk-taking. - There is room to reinforce the risk control framework without undermining the effectiveness of unconventional measures introduced successfully by the BCCh during the latest crises. - The Board has ultimate responsibility for balancing objectives; internal organization and processes should create “constructive conflicts” at departmental level so decision-makers can assess all viewpoints. ### EMERGENCY LIQUIDITY ASSISTANCE (ELA): LEGAL FOUNDATIONS, MASTER AGREEMENT, AND OPERATIONAL DESIGN - Legal foundations - Article 36 of the BCCh Basic Constitutional Act provides a legal basis for effective Emergency Liquidity Assistance (ELA): - Allows BCCh to provide LOLR loans to banks facing temporary liquidity stress, for up to 90 days, with the objective of preserving financial stability. - The term of those loans can be extended by a majority of the BCCh Board Members, with the prior opinion of the banking supervisor (CMF). - Article 36 states those loans are conditional on specific rules that the beneficiary bank must comply with. - Article 36 provides an adequate legal basis for ELA design, including cooperation between the central bank and the banking supervisor. - The ELA legal and regulatory framework should be completed and include: - (i) an ELA Regulation by the central bank (to be published), - (ii) central bank procedures (typically confidential), - (iii) banking supervisor procedures, - (iv) a memorandum of understanding (MoU) between the central bank and the banking supervisor, - (v) an MoU between the central bank and the Ministry of Finance, - (vi) an ELA Master Agreement. - ELA Master Agreement and conditionality - The BCCh, with the CMF’s support, should prepare an ELA Master Agreement outlining an exhaustive conditionality framework for ELA. - No ELA should be unconditional; ELA aims to give time to the liquidity-stressed bank to take necessary measures (e.g., deleveraging, asset sales, restoring market access etc.) to restore an appropriate liquidity situation. - The provision of ELA should be conditional on the prior signature of an ELA agreement by the counterparty. - The ELA Master Agreement should serve as a model agreement that can be adjusted to tailor conditionality to each bank’s specific challenges. - The ELA Master Agreement could remain confidential or be published. - Confidentiality advantage: avoid controversies with counterparties when ELA Agreements differ from the model agreement. - Publication advantages: reduction of moral hazard and better preparation of banks for critical situations. - Typical conditionality elements to include in the ELA Master Agreement - Reinforced reporting requirements. - Obligation to conduct targeted audits and to share results with the central bank and the banking supervisor. - Limitation on interbank placements to minimize the use of ELA. - Prohibition of dividend payments. - Limits on exceptional operations. - Specific rules on significant investments and loans (e.g., a prior notification or prior approval regime). - Limits on salary increases, bonuses, and new hires. - Roles, forward-looking assessments, and decision-making - The forward-looking assessment of solvency should be made by the CMF. - Solvency for ELA is forward-looking: a bank is deemed solvent if it has a credible prospect to maintain or restore appropriate capital adequacy ratios within the short-term. - Assessment must go beyond point-in-time capital adequacy ratios and consider forward-looking information on asset quality, loss recognition, recapitalization prospects, etc. - Provide clear and specific information on envisioned recapitalization: amount, estimated impact on capital adequacy ratios, participating investors, tentative schedule. - The CMF’s solvency assessment may be nuanced rather than binary. - Suggested “traffic-light” approach: green (positive), orange (intermediary/qualified concern), red (negative). - The BCCh retains full discretion, within the Law, to provide ELA or not. - If solvency assessment is positive, BCCh may, but must not, provide ELA—based on a financial stability assessment. - If solvency assessment is negative, BCCh must not provide ELA. - Under IMF ELA guidance, ELA might be provided with a State guarantee fully protecting the central bank against any loss if allowed under national law. - If solvency assessment is “intermediary,” BCCh may provide ELA, with or without a State guarantee depending on risk assessment; significant uncertainty on solvency implies ELA may only be provided under a State guarantee. - The viability assessment should be forward-looking and performed by the CMF. - A bank is viable if it has a credible prospect to maintain a sufficient level of profitability without repeated recapitalizations. - The banking supervisor should summarize profitability history, latest indicators (such as Return on Tangible Equity), business model and competitive advantages. - The assessment of financial stability risks should be made by the BCCh. - This includes assessing systemic nature and contagion risks in the broader national economic and financial context. - Preserving financial stability is the guiding principle for providing ELA and for decisions on disclosure. - ELA is discretionary (but not arbitrary) and there is no entitlement to ELA for any bank. - Collateral policies and risk control for ELA - BCCh collateral policies for ELA should be guided by the principle of prudence. - ELA loans are risky for a central bank and require prudent collateralization. - ELA requests typically arise when a bank has exhausted eligible collateral for monetary policy and needs additional central bank funding. - In most ELA cases only “unconventional” collateral remains available. - The BCCh will need to significantly increase its haircuts on credit claims to prudently protect its balance sheet when providing ELA. - A haircut add-on system, differentiating haircuts on credit claims depending on credit risk classification, maturity, and existence or absence of guarantees, can modulate ELA haircuts. - The BCCh should reinforce ELA risk control measures in a discretionary manner when needed. - In addition to conservative haircuts, implement additional risk control measures (e.g., concentration limits) and reinforce them if non-compliance occurs. - Central bank discretion applies to selection of assets to collateralize ELA; BCCh should define a preference order for mobilization of collateral as part of internal procedures. - Pricing, maturity, and operational cadence - The interest rate on ELA loans should be defined as a premium over the rate of the BCCh’s Permanent Liquidity Facility (FPL). - The ELA interest rate should be a penalty rate to ensure ELA is a last resort but not so high as to jeopardize the bank’s solvency. - Central banks typically set it at a premium of 100 to 300 basis points over their highest monetary policy rate (in the BCCh case, the FPL rate). - The maximum maturity of ELA loans should be set at two weeks by the ELA Regulation. - This maximum maturity is distinct from the legal term on ELA (longest possible time window for provision of ELA is 90 days under Article 36 of the BCCh Act, with strict conditions for extension beyond 90 days). - ELA should be provided only for short periods (not longer than two weeks) to minimize provision and to enable frequent review of compliance with conditionality. - Monitoring, funding plans, communication, and preparedness - Every two weeks, the CMF should inform the BCCh on the bank’s compliance and progress in measures to exit LOLR support. - The banking supervisor’s input is essential for BCCh decisions on continuation or discontinuation of ELA. - General approach: lack of compliance typically leads to reinforcement of BCCh risk control measures (e.g., higher overcollateralization) and/or stricter conditionality, rather than immediate discontinuation of ELA. - Reinforcement measures are more likely to ensure compliance than a threat to “pull the plug,” which may be non-credible if the bank is systemic. - The BCCh and the CMF should define a funding plan template. - A funding plan is a balance sheet projection over a medium-term horizon (typically one or two years in the context of ELA), with quarterly forecasting points and quarterly revisions. - A bank receiving ELA must provide a funding plan outlining strategy to fully repay ELA within the term defined by the central bank (e.g., maximum 90 days in the Chilean context). - The funding plan should reflect measures to restore liquidity (asset sales, recapitalization, more conservative lending and investment policies, etc.). - The CMF should provide the BCCh with its assessment of the funding plan submitted by the bank under ELA. - The funding plan should be realistic and reflect a commitment by the bank’s senior management; it should be presented by the bank’s CEO and CFO. - The banking supervisor’s assessment should feed into BCCh decision-making. - When successive funding plans are submitted, assessment should focus on revisions and deviations between realizations and forecasts; whether negative deviations are exogenous or endogenous to bank management is essential for ELA decisions. - The BCCh should define communication policies on possible ELA operations. - Immediate disclosure of ELA may jeopardize depositor and creditor confidence and contagion; initial confidentiality is generally advised to minimize financial stability risks. - Central bank accountability requires ELA operations be covered by internal and external audits and communicated ex post once ELA has been repaid and along auditors’ recommendations. - Communication strategy may be detailed in internal procedures with retained flexibility to adapt to circumstances, always aiming to preserve financial stability. - ELA preparedness can be bolstered through joint BCCh/CMF simulations. - The CMF and BCCh already participate in periodic stress exercises. - Simulations could test readiness to cooperate and provide necessary inputs for an ELA assessment, e.g., based on case studies. *Italic: International Monetary Fund — Chile Technical Note (excerpt).* ### EXECUTIVE SUMMARY __________________________________________________________________________ 4 ### EXECUTIVE SUMMARY ### INTRODUCTION - This technical note focuses on systemic liquidity issues and safety nets in Chile. - The review evaluated the Banco Central de Chile’s (BCCh) operational framework and its ability to address systemic and idiosyncratic liquidity shocks, and assessed the functioning and resilience of key funding markets in Chile. - Organization: - Section I: main liquidity risks and functioning/resilience of liquidity markets. - Section II: systemic liquidity risk management framework, with focus on BCCh monetary policy operational and collateral frameworks. - Section III: lender-of-last-resort framework. ### LIQUIDITY RISKS AND MARKET STRUCTURE — A Highly Interconnected Financial System - Structure and vulnerabilities - Large domestic non-bank financial sector (pension funds, mutual funds, insurers) creates a large investor base for domestic debt securities but is vulnerable to shocks with significant spillovers to funding markets and the banking system. - On aggregate, retail deposits account for about half all total liabilities of the banking system; the other half comprises mutual funds, pension funds and bank deposits, locally issued and externally issued bonds, external loans, and, since 2020, sizeable central bank refinancing. - Pension funds are the largest buyers of bank bonds; as of [September/October 2020], pension funds held about 46 percent of outstanding bank bonds and mutual funds held about 51 percent of time deposits. - Heterogeneous effects and concentration risks - Medium-sized banks are generally more reliant on wholesale funding and are more vulnerable to liquidity risks than larger banks that rely on larger bases of stable retail deposits. - Significant counterparty concentration in product categories (bank bonds, time deposits) can expose banks to spillovers from shocks affecting the non-bank financial sector. - Shocks affecting mutual funds disproportionately impact banks that rely significantly on term deposits, in particular medium-sized banks. - Portfolio shifts during crises - Social turmoil in 2019 and the COVID-19 pandemic in 2020–2021 caused large portfolio shifts in the non-bank financial sector: waves of redemptions from mutual funds, three extraordinary pension funds withdrawals, shortening of maturities, and increased dollarization. - Non-bank institutions tend to sell domestic bank bonds and increase holdings of foreign securities perceived as more liquid (USD), and funds shifted from longer-term fixed-income funds into money market funds. - Massive selling pressure on domestic bank bonds led to a surge in bank bond spreads and several central bank interventions to prevent a major rise in bank funding costs. - A significant share of funds withdrawn from pension funds flowed into the banking sector as term deposits. - Market liquidity characteristics - Market liquidity in domestic private debt securities is limited, causing large spread sensitivity to external shocks. - Domestic bank bond yields are more sensitive to shocks than sovereign bond yields; domestic corporate bonds are even more vulnerable due to very limited liquidity. - Insurers are major investors in corporate bonds with a typical buy-and-hold strategy. - Cross-border issuance - Some banks are seeking to expand bond issuance abroad to diversify investor base; initiatives appear limited to first-tier, large banks. ### LIQUIDITY RISKS AND MARKET STRUCTURE — An Incomplete Money Market - Structure of the interbank market - The interbank money market is almost entirely unsecured; interbank transactions take place mostly without collateral and are subject to the regulation on provisions. - Access to bank excess liquidity is costlier and more difficult for smaller banks; in crisis times many smaller banks prefer accessing BCCh liquidity operations. - Role as shock absorber - The unsecured money market is an important, though insufficient, shock absorber for small liquidity shocks. - Autonomous factors result in a significant, structural liquidity surplus. BCCh absorbs a significant share of the liquidity surplus on long maturities through issuance of long-term PDBC (Central Bank of Chile notes). - The unsecured money market is very vulnerable to confidence shocks and appears insufficient against larger shocks. - Fragmentation and trust dependence - In the absence of collateralized transactions, the money market’s effectiveness depends on trust between counterparties. - The absence of a secured interbank market means any surge in money market fragmentation leads to a need for central bank funding; in other jurisdictions increases in perceived bank credit risk may be accommodated by collateral. ### CENTRAL BANK INTERVENTIONS AND COLLATERAL FRAMEWORK - BCCh crisis-era responses - In 2019 social turmoil and the COVID-19 pandemic in 2020–2021, the BCCh introduced unconventional liquidity measures including targeted long-term refinancing operations, significant expansion of eligible collateral (to bank bonds, corporate bonds, and credit claims), cash purchases/forward sales of bank instruments from non-bank financial institutions, foreign exchange swaps, and relaxations of regulatory liquidity requirements. - Those measures were largely effective in dealing with extraordinary macroeconomic shocks but caused a massive increase in the central bank’s balance sheet and excessive risk-taking. - Need for a more conservative steady-state collateral framework - A return to the very narrow pre-crisis collateral framework is not deemed justified. - The BCCh’s future steady-state collateral framework should incorporate more prudent haircuts and other risk control measures. - Risk equivalence should be the guiding principle for calibration of risk control measures, leading to greater differentiation across eligible assets based on identified risks. - Haircuts should be conservative enough to protect the central bank against losses from liquidation of assets following a counterparty default. - Acceptance of bank bonds as collateral should be limited to crisis times, with strict limits. - Move from current earmarking system to a pooling system would simplify collateral management; this would require some legal adjustments. - Reinforce the role of the risk management function in the design and implementation of monetary policy measures. ### EMERGENCY LIQUIDITY ASSISTANCE (ELA) AND LENDER-OF-LAST-RESORT FRAMEWORK - Rationale for ELA framework - An effective ELA framework would help the BCCh use system-wide liquidity measures more parsimoniously by addressing residual idiosyncratic liquidity stressed situations and facilitating gradual unwinding from system-wide unconventional measures. - Cooperation and operationalization - Finalization and implementation of the ELA framework will require close cooperation between the central bank and the banking supervisor, formalized in a Memorandum of Understanding (MoU) between the BCCh and the Financial Markets Commission (CMF). - Significant technical work is required to operationalize ELA: preparation of an ELA Regulation, ELA internal procedures, an ELA Master Agreement, and a funding plan template. - Operationalization tasks include solvency and viability assessments, ELA accountability and communication, and ELA simulations. ### TABLE OF RECOMMENDATIONS (HIGHLIGHTS) - Interbank repo market (Authorities: BCCh/CMF) - Set up a working group with market participants on development of the interbank repo market, and consider expanding discussion with non-bank financial institutions — Near-term. - Define a strategy for repo market development, including improving infrastructures and setting appropriate incentives — Medium-term. - Organize interbank repo tests in real conditions — Medium-term. - Collateral framework (Authority: BCCh unless noted) - Define a more conservative haircut schedule, based on risk equivalence — Near-term. - Define additional risk control measures for bank bonds collateral — Near-term. - Define a steady-state collateral framework, with eligibility extended to all marketable assets meeting minimum credit requirements, and excluding bank bonds — Near-term. - Reflect recommendation against holding bank bonds in purchase program implementation and begin unwinding current holdings — Medium-term. - Move from collateral earmarking to pooling — BCCh/MoF — Medium-term. - Publish the revised collateral framework — Medium-term. - Regularly assess eligible collateral encumbrance and availability — Medium-term. - Reinforce the role of the risk management function in the design and implementation of monetary policy measures — Medium-term. - Emergency Liquidity Assistance (Authorities: BCCh/CMF/MoF) - Prepare an ELA Regulation, including all requirements for access to ELA, the ELA interest rate, and the maximum maturity of an ELA loans (2 weeks) — BCCh — Near-term. - Prepare ELA procedures, including a priority order and risk control measures for ELA collateral — BCCh/CMF — Near-term. - Finalize the MoU between the central bank and the banking supervisor — BCCh/CMF — Near-term. - Prepare an MoU between the central bank and the Ministry of Finance — BCCh/MoF — Medium-term. - Prepare an ELA Master Agreement — BCCh/CMF — Near-term. - Prepare a funding plan template — BCCh/CMF — Near-term. - Operationalize the solvency and viability assessments — CMF — Near-term. - Prepare for ELA accountability and communication — BCCh/CMF — Near-term. - Prepare for ELA through simulations — BCCh/CMF — Near-term. - Timing definitions: - Near-term: within 12 months. - Medium-term: within 1 to 2 years. *Source: EXECUTIVE SUMMARY, Technical Note on systemic liquidity issues and safety nets in Chile, Banco Central de Chile (BCCh) review.* ### 16. Because of the absence of an interbank repo market, the threshold for central bank ### 16. Because of the absence of an interbank repo market, the threshold for central bank ### Consequences of the absence of an interbank repo market - Liquidity shocks that could be mitigated by a secured interbank market instead require earlier and more frequent central bank interventions. - Secured interbank markets act as a second “line of defense”: collateral protection supports continued circulation of liquidity between banks. The euro area transitioned from significantly unsecured to predominantly secured since the Great Financial Crisis of 2007–2009 and remained so, supporting interbank liquidity in episodes such as 2011–2015 and in 2020. - In Chile, the absence of this shock absorber means the BCCh is more likely to intervene to address liquidity shocks that private backstops could otherwise accommodate. - The absence of a repo market has led to a more aggressive monetary policy response to systemic liquidity shocks (social turmoil of 2019 and COVID-19 pandemic in 2020–2021), resulting in: - A massive expansion of the BCCh balance sheet. - Significant risk taking by the BCCh. - A more complete money market with an active secured segment would likely have reduced the need for central bank interventions and allowed the BCCh to be as effective with a less significant balance sheet expansion and less risk taking. ### Schematic implications (as described) - Without secured money market: - Unsecured market partially reallocates excess reserves among banks (A, B, C, D). - Central bank funds remaining excess demand for liquidity (D, E, F, G). - Banks E, F, G may be deprived of unsecured market access due to perceived credit risk. - With secured money market: - Secured market allows further interbank reallocation using collateral, preserving market access for some banks (D, E, F, G) despite higher perceived credit risk. - Residual need for central bank funding is much smaller, resulting in a leaner central bank balance sheet, less risk-taking, and easier normalization. ### Towards an interbank repo market — rationale and benefits - Collateral market fluidity should match savers’ flexible asset allocations (shifts between pension funds, mutual funds, bank deposits), which currently can cause massive portfolio shifts and impact bond spreads and banks’ funding costs. - An active interbank repo market would: - Reinforce private backstops and reduce need for public intervention. - Incentivize the use of locally-denominated assets instead of foreign currency debt during liquidity stress by allowing domestic debt securities to be used as collateral. - Support monetary policy transmission by enabling a greater differentiation in maturities (e.g., up to 3 to 12 months), developing the term money market and a more complete money market curve to better calibrate BCCh liquidity management. - Chile has sufficient high-quality collateral: - Liquid domestic sovereign debt as a likely first source of collateral. - Notes issued by the BCCh (PDBC) as complementary very high-quality assets. - Bank bonds could be used, but require more conservative risk control measures due to correlation risk with borrower default. - Development of a secured market could strengthen corporate bond market liquidity and transparency. ### Infrastructure and incentives needed for development - Required infrastructures: - Technical: electronic trading platforms, securities settlement systems with delivery vs. payment. - Legal: legal framework for secured transactions, master repurchase agreement. - Incentives: - Profitable opportunities, better risk management via market transactions, regulatory and reputational drivers. - Market diagnostics: - Mission discussions suggest the main obstacle is incentive-related rather than legal, though some participants see scope to improve the legal framework. - Perception that BCCh will provide liquidity backstops (reinforced by 2019–2020 interventions) reduces market incentives to develop secured interbank lending. - Some medium-sized banks rely solely on BCCh for liquidity rather than participating in money markets. ### Recommended BCCh actions to foster a repo market - Accelerate and formalize assessment of root causes for the absence of an interbank repo market in close cooperation with market participants. - Consider formalizing work via a working group with relevant market participants (banks and central clearing counterparties) to define and implement an action plan to develop an interbank repo market; examine the role of non-bank financial institutions beyond the interbank perimeter. - Objective: a broad strategy including infrastructure improvements and incentive design. Possible incentive measures include: - (i) Preferential regulatory treatment of secured lending operations vs. unsecured loans. - (ii) Sufficiently penalizing conditions (e.g., high interest rates, conditionality) for central bank backstops (Permanent Liquidity Facility (FPL), Emergency Liquidity Assistance (ELA)). - (iii) Requirement for funding plans for banks relying excessively on central bank funding. - (iv) Restrictions on the use of bank bonds as collateral with the central bank. - (v) Countering expectations for aggressive central bank interventions when small liquidity shocks occur. - (vi) Gradual unwinding of central bank unconventional measures once they are not needed any longer. - (vii) Assessing the appropriateness of the width of the currently narrow corridor of standing facilities. - Organizing interbank repo tests in real conditions (for small, symbolic amounts) under BCCh supervision may help banks gain confidence and understand the business case for secured interbank credit lines. ### Central bank operational framework for systemic liquidity shocks — key elements - Main objective of BCCh liquidity management: implementation and transmission of monetary policy under an inflation-targeting regime and a floating exchange rate, committed to use its instruments so that annual CPI inflation fluctuates around 3 percent; operational goal is an annual projected inflation of 3 percent over a two-year policy horizon. - Chilean banking system features a structural significant liquidity surplus reflecting the accumulation of foreign reserves; BCCh absorbs excess liquidity to transmit policy. - Reserve and technical reserve requirements: - Reserve requirements: percentage of time deposits currently 3.6 percent and of demand deposits currently 9 percent, fulfilled on average monthly over maintenance period from the 9th day of one month to the 8th of the next. - Technical reserves: must be fulfilled for total deposits exceeding a multiple currently 2.5 of bank capital; must be constituted through deposits at the central bank or in securities issued by the central bank or by the State. - Note: “effective capital” considered (i.e. 8 percent of risk-weighted assets and the systemic risk buffer up to 3.5 percent of risk-weighted assets). - BCCh instruments to absorb excess liquidity: - Issuance of central bank notes (PDBC) with maturities ranging from 7 to 360 days and longer-term central bank bonds denominated in Chilean pesos (BCP) and Unidad de Fomento (UF) (BCU). - Since 2015 the BCCh has only issued PDBC. BCP and BCU have not been issued recently; latest issuances: BCP in August 2016 and BCU in September 2013. - BCCh publishes an issuance program every month and a debt plan at the beginning of each year. - Overnight rate framework: - BCCh aims to maintain the overnight interbank rate around its Monetary Policy Rate (MPR). - Narrow corridor of standing facilities: FPD rate set at MPR minus 25 basis points; FPL rate set at MPR plus 25 basis points. - A wider corridor would reinforce incentives for interbank activity. - Historically, deviations between overnight interbank rate and MPR were negligible in calm times; persistent deviations exceeding 15 basis points observed during the Great Financial Crisis of 2007–2009, the social turmoil in 2019, and the COVID-19 pandemic in 2020–2021. - Crisis responses and balance sheet expansion: - BCCh cut the MPR from 3 percent to 0.5 percent (effective lower bound) in response to 2019 and 2020–2021 shocks. - BCCh temporarily suspended issuance of central bank notes and conducted buybacks of BCP and BCU to increase banks’ reserves. - Intervened in the foreign exchange market and set up foreign exchange swaps to provide U.S. dollar liquidity; initial swap maturities of 30 and 90 days, then 180 days. - Combined with regulatory forbearance (suspending maturity mismatch requirements), longer-term refinancing operations helped mitigate funding stress. - Targeted refinancing: Financing Facility Conditional on Increased Lending (FCIC) provided long-term loans with a maturity of four years at the MPR, with maximum take-up linked to each bank’s credit provision or credit growth; BCCh significantly expanded eligible collateral for this operation. _Italic: International Monetary Fund — Chile Technical Note (excerpt)._ ### 39. Significant bank take-up at the FCIC has led to a major shift in banks’ liabilities ### 39. Significant bank take-up at the FCIC has led to a major shift in banks’ liabilities ### Bank funding and central bank measures - The FCIC has been attractive to banks in its successive forms, and also in its latest modalities (FCIC3), which aimed at facilitating the funding of refinancing operations of well-performing and guaranteed loans. - Banks’ reliance on this four-year, cheap, central bank funding has helped them deal with reduced demand for bank bonds and time deposits. - Central bank refinancing has compensated for a decrease in time deposits and bank bonds, or reduced banks’ needs for those funding sources. - The share of bank bonds (held in particular by pension funds) and time deposits (held in particular by mutual funds) has declined in the banking system’s liabilities structure. ### BCCh purchase programs and CCVP - Purchases of time deposits and longer-term bank bonds by the BCCh helped mitigate upward pressures on bank bond spreads and facilitate portfolios reallocation. - The BCCh lifted the maximum maturity (initially five years) on the bank bonds targeted by its purchase program to accommodate investors’ preference for liquidity. - By buying longer-term, relatively illiquid bank bonds, the BCCh accommodated significant portfolio shifts in the non-bank financial sector, in particular withdrawals from pension funds and fixed-income mutual funds. - The BCCh set up a special cash purchase/forward sale program (CCVP) to facilitate the extraordinary pension fund redemptions of 2020. - Through CCVP, the BCCh implements direct cash purchase of bank bonds, and sells them forward to the same counterparty at a term of one or three months. - CCVP is accessible to participants in the Open Market Operations System (SOMA), including non-bank financial institutions such as pension funds. - The CCVP helped mitigate the risk of fire sales by pension funds and facilitated portfolio rebalancing while containing impacts on bank funding costs. - The Superintendency of Pensions relaxed investment limits on certain counterparties and instruments, supporting the effectiveness of CCVP. - A 2020 constitutional and legal amendment allows the BCCh to purchase State debt securities in the secondary market, in case of market stress and financial instability, under a qualified decision of its Board, adopted by 4 of its 5 members. - Aggressive forward guidance by the BCCh, anchored to the MPR, has contributed to the effectiveness of its unconventional monetary policy measures. ### Risks, market functioning, and exit challenges - The BCCh has become a major lender to the banking system through the FCIC, the CCVP and bank bond purchases; a significant portion of this central bank funding has long maturities (for instance FCIC loans have a four-year term). - Significant shifts in banks’ liabilities may have long-term effects on market functioning and liquidity: - Primary bank bonds issuances and secondary market turnover for bank bonds have declined significantly since the start of central bank purchases. - Too prolonged access to cheap central bank funding might discourage some banks from resorting to other funding sources, complicating the unwinding of unconventional liquidity measures. - In a banking system characterized by a structural liquidity surplus, central bank funding cannot be a major funding source beyond crisis times; active, liquid, complete (i.e., also secured) markets should be a primary policy objective. - Some unconventional measures (notably FCIC) aimed at avoiding a credit crunch and could not be fully substituted by an interbank repo market, although an interbank repo market could help absorb part of liquidity shocks through secured reallocation of excess reserves. - Significant bank bond purchases expose the BCCh’s balance sheet to systemic risks: - Holding unsecured bank bonds is akin to unsecured lending to banks and raises idiosyncratic and systemic default risk exposures. - The risk control framework for the bank bond purchase program was insufficient (insufficient haircuts, no issuer concentration limit). - A more cautious approach is justified, e.g., replacing activated-at-counterparties facility by fixed-size operations launched at the BCCh’s initiative, and timely discontinuation of purchases, possibly before other unconventional measures. ### Collateral framework: current state and recommendations - Importance: - An effective collateral framework is essential to protect the central bank’s balance sheet and to pursue monetary policy and financial stability objectives, especially during crises requiring balance sheet expansion. - Pre-crisis eligibility: - Until the 2019–2020 crisis, eligible collateral was limited to debt securities issued by the BCCh and by the State. - Crisis-driven expansion: - The BCCh broadened asset eligibility for the FCIC to corporate bonds, bank bonds, time deposits, commercial paper, well-performing bank loans as well as larger commercial portfolios, with a State guarantee required for bank loans under a quality threshold. - The Government expanded its Small Business Guarantee Fund (FOGAPE) with a ten-fold increase in the volume of guarantees; the cap on sales for eligibility was increased from USD 1 million to USD 40 million a year; the cap on credit-loss coverage was set at 15 percent. - Acceptance of State guaranteed loans as collateral and reduction of credit risk weights for State-guaranteed loans contributed to resilience of bank credit provision during the pandemic. - Strategic considerations: - The “optimal” perimeter of a central bank collateral framework may differ across central banks depending on the structural liquidity position of the banking system, development of local capital markets, and systemic liquidity risks. - Arguments for a narrow framework include limited complexity in risk control and avoidance of moral hazard; arguments for a broad framework include diversification, reducing collateral scarcity risk, avoiding privileged treatment of issuers, and supporting a sufficiently effective liquidity framework. - Overall, a larger collateral framework than the BCCh’s pre-crisis framework seems appropriate in Chile given the development of capital markets for private debt securities. - Eligibility recommendations: - The BCCh should expand collateral eligibility to all marketable assets complying with minimum credit requirements; corporate bonds meeting minimum credit requirements should be considered eligible also in normal times. - Additional restrictions could include minimum outstanding amounts and operational requirements (e.g., issuance in dematerialized form according to Chilean Law, eligibility at the local CSD and/or ICSD). - Bank bonds and related-party mobilization: - Bank bonds raise specific risks and should be ineligible in normal times, or subject to very strict risk control measures in crisis times (e.g., issuer limits). - Central banks typically prefer bank-issued bonds with a second layer of protection (e.g., ABS, covered bonds, State guarantees); in the absence of securitization in Chile, BCCh should adopt a conservative approach to bank bond eligibility. - The mobilization of bank bonds by related parties should be prohibited to avoid cross-holdings and circular arrangements; strict safeguards and a strict prohibition on bonds issued by related parties are needed. - The Eurosystem example: restricts use of uncovered bank bonds to unrelated parties and caps to 5 percent of the collateral pool of each counterparty the uncovered bank bonds of each group of related banks. - Risk control and haircuts: - Current BCCh risk control framework deficiencies: - No haircut on debt securities issued by the State and the central bank. - A 10-basis point risk premium adjustment (added to the discount rate) to bank-issued debt (bank bonds, time deposits). - A 30-basis point adjustment to corporate bonds. - A 50-basis point adjustment to commercial paper. - A uniform 10 percent haircut applies to bank loans of the risk categories A1 to A6, eligible as collateral for the FCIC. - Some concentration limits apply to bank loans collateral pools, but no general issuer limit. - The framework is relatively simplistic and insufficiently conservative; a more differentiated approach is warranted. - A more conservative, differentiated haircut schedule should better protect the BCCh’s balance sheet: - Haircuts should be conservative enough to protect against (i) valuation mistakes, (ii) possible exogenous drop in assets’ value during liquidation, and (iii) negative effects of the bank’s default on asset values. - Haircuts should reflect varying market volatility, liquidity, and correlation risk. - A haircut add-on system could reflect credit risk, liquidity risk, and maturity risk. - Risk equivalence should be the guiding principle: haircuts should ensure equal risk from the central bank’s perspective across eligible assets and avoid adverse selection by banks. - Well-calibrated haircut add-ons should reflect heterogeneous liquidity risk across asset classes; greater haircut differentiation would help prevent adverse selection and provide better pricing for illiquidity risk. - Haircuts on credit claims should be much higher and differentiated across risk categories and based on the existence or absence of a State guarantee: - Current uniform 10 percent haircut is likely insufficient and could fuel adverse selection. - Differentiation should consider risk categories (A1 to A6), presence of State guarantee (A5 and A6 loans are eligible only when they include a State guarantee), and ideally a credit risk assessment of debtors. - Combining supervisor loan risk classification with external or internal measures of corporate debtors’ financial soundness would better protect the central bank. - The current haircut is unlikely to protect the BCCh against a large drop in value of a defaulted bank’s loan portfolio given illiquidity and risks (e.g., strategic defaulting). *Source: IMF staff analysis as provided in the content unit.* ### 63. Relaxation of risk control measures should remain exceptional and should not be seen ### 63. Relaxation of risk control measures should remain exceptional and should not be seen ### Risk-control measures and use of haircuts/margins - Relaxation of risk control measures should remain exceptional and contained; it should not be seen as a standard response to liquidity shocks. - Central banks may legitimately revise risk tolerance in a systemic crisis but must continuously ensure collateral frameworks provide appropriate protection to their balance sheet. - Even in the face of financial stability risks and exceptional circumstances, central banks should implement conservative risk control measures. - Preference should be given to other unconventional measures (e.g., liquidity injections and expansions of the collateral framework) over relaxations of risk control measures; example cited: BCCh actions during the 2019 social turmoil and the COVID-19 pandemic. - Haircut relaxations should remain exceptional and contained. - Relaxation of margin calls should generally not be used as an unconventional policy measure because lowering the trigger point for margin calls might expose the central bank to the risk of losses in case of counterparty default. ### Complementary risk control tools and institutional design - The BCCh should combine a revised haircut schedule with additional risk control measures to give sufficient flexibility for calibrating risk during significant balance sheet expansion. - Possible additional measures include: - Stricter rules (or a prohibition) for unsecured bank bonds and collateral issued by related parties. - Concentration limits for individual issuers. - Rules ensuring sufficient diversity in collateral pools. - The BCCh could publicly communicate about a more complete risk control “toolkit” than its current haircut schedule to set incentives for appropriate bank behaviors and preparedness for liquidity shocks. - The BCCh’s Corporate Risk Department reports directly to the Board and should have a reinforced and formalized leadership role in the design and calibration of risk control measures so no unconventional measure is designed without its input. - The collateral framework should be a “co-production” between market operations and risk management departments, reflecting its dual nature: protecting the central bank’s balance sheet while achieving monetary policy goals. ### Collateral management: earmarking versus pooling - Collateral earmarking currently applies to BCCh liquidity-providing operations, with the range of eligible collateral specific to each operation (e.g., the FCIC has its own eligibility rules). - Earmarking complicates collateral management for banks and the central bank because collateral is assigned to specific operations rather than pooled on a single counterparty account. - Operational complexity was also influenced by differences in legal frameworks for State debt securities (historically, only pledge allowed, not purchasing and disposing). - The current problem is attenuated using fixed rate, full allotment auctions (no tender uncertainty), but could become an issue in variable rate, competitive auctions during gradual unwinding of unconventional measures. - Transition to pooling could facilitate collateral mobilization: - Pooling allows a bank to preposition eligible collateral for all refinancing obtained from the central bank (monetary policy operations, lender-of-last-resort, intraday credit). - Any asset in the pool can be used as long as the value of the remaining collateral pool (after haircuts) exceeds the value of total credit outstanding. - Pooling significantly facilitates collateral management for banks and the central bank and fosters market liquidity for eligible assets. - Currently pooling applies only to the FCIC operations. - A move to pooling would require adjustments to the legal framework. - Legal constraint noted: For pledged collateral to be enforceable under current Chilean legislation, each instrument must be individualized and marked as pledged; it is not possible to pledge an entire account (or pool of assets) establishing a “floating charge” under the current legal framework. ### Transparency, review, and monitoring of collateral framework - The BCCh could improve transparency by communicating on its steady-state collateral framework during the gradual exit from unconventional measures. - The steady-state framework could be broader than the pre-crisis framework, include a single list of eligible collateral (with pooling), and a more complete risk control toolkit. - Once finalized, it could be published on a specific section of the BCCh’s website (including an updated list of eligible securities), with regular updates to keep market participants abreast of changes. - The collateral framework should be reviewed at a regular frequency, for instance every two years. - Revisions may include changes in eligibility requirements, adjustments to the haircut schedule, and other risk control measures. - Regular review is important to ensure continued verification of risk equivalence as the balance of risks across eligible asset classes may change over time. - Studying banks’ collateral mobilization strategies regularly helps identify possible adverse selection, which generally hints at a possible violation of risk equivalence and thus a need for adjustments. - The BCCh should integrate monitoring of banks’ overcollateralization into liquidity monitoring: - The BCCh already monitors banks’ balance sheets and liquidity positions on a daily basis and communicates regularly with banks’ treasurers. - Reinforce monitoring through assessments of eligible collateral availability, sufficiency, and encumbrance on a regular basis. - Based on revised eligibility rules and haircuts, calculate each bank’s maximum refinancing capacity regularly. - A comparison between each bank’s current central bank refinancing and its maximum refinancing capacity would indicate system-wide and idiosyncratic liquidity risks. ### BCCh crisis experience and internal decision-making - BCCh’s experience during the crises in 2019–2021 suggests a preference for effectiveness at the cost of significant risk-taking. - There is room to reinforce the risk control framework without undermining the effectiveness of unconventional measures introduced successfully by the BCCh during the latest crises. - The Board has ultimate responsibility for balancing objectives; internal organization and processes should create “constructive conflicts” at departmental level so decision-makers can assess all viewpoints. ### Emergency Liquidity Assistance (ELA): rationale and legal foundations - An effective lender-of-last-resort (LOLR) framework is an essential part of the safety net; absence of a sound LOLR typically results in: - A financial system more exposed to idiosyncratic liquidity risks (through contagion). - Overburdening monetary policy liquidity-providing operations as a suboptimal tool to address financial stability risks. - Moral hazard as banks anticipate system-wide liquidity measures by the central bank. - Suboptimal monetary policy design and implementation. - An effective LOLR framework allows the central bank to calibrate monetary policy measures based on system-wide assessment while residual stress situations can be addressed by LOLR support. - During a systemic liquidity shock, secured money markets and LOLR absorb residual liquidity needs; without LOLR, system-wide measures would be calibrated differently and likely sub-optimally. - While the Chilean banking system did not face major idiosyncratic liquidity issues during the 2019–2021 crises, an effective LOLR would facilitate a gradual unwinding of the BCCh’s unconventional measures and ensure discontinuation would not expose the weakest banks to disproportionate liquidity risks. - The absence of three “missing pieces” in Chile’s liquidity framework—(i) a secured interbank money market, (ii) a stronger central bank risk management framework, and (iii) an effective LOLR framework—may perversely reinforce each other and lead to a suboptimal status quo. ### Legal framework and essential components for ELA in Chile - Article 36 of the BCCh Basic Constitutional Act provides a legal basis for effective Emergency Liquidity Assistance (ELA): - Allows BCCh to provide LOLR loans to banks facing temporary liquidity stress, for up to 90 days, with the objective of preserving financial stability. - The term of those loans can be extended by a majority of the BCCh Board Members, with the prior opinion of the banking supervisor (CMF). - Article 36 states those loans are conditional on specific rules that the beneficiary bank must comply with. - Article 36 provides an adequate legal basis for ELA design, including cooperation between the central bank and the banking supervisor. - The ELA legal and regulatory framework should be completed and include: - (i) an ELA Regulation by the central bank (to be published), - (ii) central bank procedures (typically confidential), - (iii) banking supervisor procedures, - (iv) a memorandum of understanding (MoU) between the central bank and the banking supervisor, - (v) an MoU between the central bank and the Ministry of Finance, - (vi) an ELA Master Agreement. - The BCCh should publish an ELA Regulation that sets out key conditions: - Make clear that ELA is reserved for (i) solvent and (ii) viable banks. - Clarify that (iii) ELA must be strictly collateralized. - Make provision that (iv) provision of ELA is conditional on prior signature of an ELA Agreement between the BCCh and the beneficiary bank, setting out a clear conditionality framework. - Transparently define (v) the interest rate applicable to ELA loans and (vi) the maximum maturity of an ELA loan (distinct from the 90-day maximum term in Article 36). - Central bank and banking supervisor ELA procedures should operationalize the ELA Regulation: - Procedures should define task allocation, deliverables, internal deadlines, rules for circulation of sensitive information, mobilization of collateral, and templates for key documents (ELA assessment, solvency and viability assessment). - An effective organization could be a small ELA taskforce gathering BCCh and CMF experts in market operations, financial stability, banking supervision, legal, and risk management. - An MoU between BCCh and CMF should precisely define task allocation and cooperation; principles guiding the MoU: - (i) effectiveness, - (ii) no duplication of tasks, - (iii) no dilution of responsibilities. - The central bank should bear ultimate responsibility to decide on ELA based on a financial stability assessment; the CMF should provide input on verification of solvency and viability, definition and implementation of conditionality, implementation and assessment of funding plans, and assessment of the beneficiary bank’s loan book (for collateral use). - An MoU between the central bank and the Ministry of Finance should define information exchanges on ELA dossiers and possible use of State guarantees in the most critical ELA situations: - Consideration of State guarantees may be appropriate only in the most critical situations and under conditions such as: (i) serious concern on the bank’s solvency, (ii) concern on collateral sufficiency, (iii) in the case of an ongoing resolution of the bank requesting ELA. - IMF guidance on the use of State guarantees in critical ELA situations should be implemented to the extent possible under Chilean law. *Source: 1chlea2022004 - 63. Relaxation of risk control measures should remain exceptional and should not be seen* ### 82. The BCCh, with the CMF’s support, should prepare an ELA Master Agreement outlining ### 1chlea2022004 - 82. The BCCh, with the CMF’s support, should prepare an ELA Master Agreement outlining ### ELA Master Agreement and conditionality - The BCCh, with the CMF’s support, should prepare an ELA Master Agreement outlining an exhaustive conditionality framework for ELA. - No ELA should be unconditional; ELA aims to give time to the liquidity-stressed bank to take necessary measures (e.g., deleveraging, asset sales, restoring market access etc.) to restore an appropriate liquidity situation. - System-wide liquidity support measures are generally not adjusted to individual banks’ specific challenges and are described as suboptimal and dangerous for idiosyncratic liquidity-stressed situations. - The provision of ELA should be conditional on the prior signature of an ELA agreement by the counterparty. - The ELA Master Agreement should serve as a model agreement that can be adjusted to tailor conditionality to each bank’s specific challenges. - The ELA Master Agreement could remain confidential or be published. - Confidentiality advantage: avoid controversies with counterparties when ELA Agreements differ from the model agreement. - Publication advantages: reduction of moral hazard and better preparation of banks for critical situations. ### Typical conditionality elements to include in the ELA Master Agreement - Reinforced reporting requirements. - Obligation to conduct targeted audits and to share results with the central bank and the banking supervisor. - Limitation on interbank placements to minimize the use of ELA. - Prohibition of dividend payments. - Limits on exceptional operations. - Specific rules on significant investments and loans (e.g., a prior notification or prior approval regime). - Limits on salary increases, bonuses, and new hires. - The Master Agreement should include these building blocks for an exhaustive conditionality framework. ### Roles, forward-looking assessments, and decision-making - The forward-looking assessment of solvency should be made by the CMF. - Solvency for ELA is forward-looking: a bank is deemed solvent if it has a credible prospect to maintain or restore appropriate capital adequacy ratios within the short-term. - Assessment must go beyond point-in-time capital adequacy ratios and consider forward-looking information on asset quality, loss recognition, recapitalization prospects, etc. - Provide clear and specific information on envisioned recapitalization: amount, estimated impact on capital adequacy ratios, participating investors, tentative schedule. - The CMF’s solvency assessment may be nuanced rather than binary. - Suggested “traffic-light” approach: green (positive), orange (intermediary/qualified concern), red (negative). - The BCCh retains full discretion, within the Law, to provide ELA or not. - If solvency assessment is positive, BCCh may, but must not, provide ELA—based on a financial stability assessment. - If solvency assessment is negative, BCCh must not provide ELA. - Under IMF ELA guidance, ELA might be provided with a State guarantee fully protecting the central bank against any loss if allowed under national law. - If solvency assessment is “intermediary,” BCCh may provide ELA, with or without a State guarantee depending on risk assessment; significant uncertainty on solvency implies ELA may only be provided under a State guarantee. - The viability assessment should be forward-looking and performed by the CMF. - A bank is viable if it has a credible prospect to maintain a sufficient level of profitability without repeated recapitalizations. - The banking supervisor should summarize profitability history, latest indicators (such as Return on Tangible Equity), business model and competitive advantages. - The assessment of financial stability risks should be made by the BCCh. - This includes assessing systemic nature and contagion risks in the broader national economic and financial context. - Preserving financial stability is the guiding principle for providing ELA and for decisions on disclosure. - ELA is discretionary (but not arbitrary) and there is no entitlement to ELA for any bank. ### Collateral policies and risk control - BCCh collateral policies for ELA should be guided by the principle of prudence. - ELA loans are risky for a central bank and require prudent collateralization. - ELA requests typically arise when a bank has exhausted eligible collateral for monetary policy and needs additional central bank funding. - In most ELA cases only “unconventional” collateral remains available. - BCCh’s ELA Regulation may clarify which asset classes can be used as ELA collateral. - Credit claims typically account for the bulk of ELA collateral. - Mobilization of credit claims (though with insufficient haircuts) as collateral for the FCIC was a major operational step for the BCCh. - The BCCh will need to significantly increase its haircuts on credit claims to prudently protect its balance sheet when providing ELA. - A haircut add-on system, differentiating haircuts on credit claims depending on credit risk classification, maturity, and existence or absence of guarantees, can modulate ELA haircuts. - The BCCh should reinforce ELA risk control measures in a discretionary manner when needed. - In addition to conservative haircuts, implement additional risk control measures (e.g., concentration limits) and reinforce them if non-compliance occurs. - Central bank discretion applies to selection of assets to collateralize ELA; BCCh should define a preference order for mobilization of collateral as part of internal procedures. ### Pricing, maturity, and operational cadence - The interest rate on ELA loans should be defined as a premium over the rate of the BCCh’s Permanent Liquidity Facility (FPL). - The ELA interest rate should be a penalty rate to ensure ELA is a last resort but not so high as to jeopardize the bank’s solvency. - Central banks typically set it at a premium of 100 to 300 basis points over their highest monetary policy rate (in the BCCh case, the FPL rate). - The maximum maturity of ELA loans should be set at two weeks by the ELA Regulation. - This maximum maturity is distinct from the legal term on ELA (longest possible time window for provision of ELA is 90 days under Article 36 of the BCCh Act, with strict conditions for extension beyond 90 days). - ELA should be provided only for short periods (not longer than two weeks) to minimize provision and to enable frequent review of compliance with conditionality. ### Monitoring, funding plans, communication, and preparedness - Every two weeks, the CMF should inform the BCCh on the bank’s compliance and progress in measures to exit LOLR support. - The banking supervisor’s input is essential for BCCh decisions on continuation or discontinuation of ELA. - General approach: lack of compliance typically leads to reinforcement of BCCh risk control measures (e.g., higher overcollateralization) and/or stricter conditionality, rather than immediate discontinuation of ELA. - Reinforcement measures are more likely to ensure compliance than a threat to “pull the plug,” which may be non-credible if the bank is systemic. - The BCCh and the CMF should define a funding plan template. - A funding plan is a balance sheet projection over a medium-term horizon (typically one or two years in the context of ELA), with quarterly forecasting points and quarterly revisions. - A bank receiving ELA must provide a funding plan outlining strategy to fully repay ELA within the term defined by the central bank (e.g., maximum 90 days in the Chilean context). - The funding plan should reflect measures to restore liquidity (asset sales, recapitalization, more conservative lending and investment policies, etc.). - The CMF should provide the BCCh with its assessment of the funding plan submitted by the bank under ELA. - The funding plan should be realistic and reflect a commitment by the bank’s senior management; it should be presented by the bank’s CEO and CFO. - The banking supervisor’s assessment should feed into BCCh decision-making. - When successive funding plans are submitted, assessment should focus on revisions and deviations between realizations and forecasts; whether negative deviations are exogenous or endogenous to bank management is essential for ELA decisions. - The BCCh should define communication policies on possible ELA operations. - Immediate disclosure of ELA may jeopardize depositor and creditor confidence and contagion; initial confidentiality is generally advised to minimize financial stability risks. - Central bank accountability requires ELA operations be covered by internal and external audits and communicated ex post once ELA has been repaid and along auditors’ recommendations. - Communication strategy may be detailed in internal procedures with retained flexibility to adapt to circumstances, always aiming to preserve financial stability. - ELA preparedness can be bolstered through joint BCCh/CMF simulations. - The CMF and BCCh already participate in periodic stress exercises. - Simulations could test readiness to cooperate and provide necessary inputs for an ELA assessment, e.g., based on case studies. *Source: 1chlea2022004 - 82.* --- _Source: https://www.imf.org/-/media/files/publications/cr/2022/english/1chlea2022004.pdf_