The document discusses the significance of liquidity decisions in financial institutions, highlighting their importance in meeting obligations, managing cash, and ensuring operational success. It covers various aspects such as estimating liquidity needs, theories of liquidity, instruments of liquidity, and the implications of financial distress. Additionally, it outlines procedures for identifying, managing, and optimizing liquidity to enhance a bank's financial stability.

1. Liquidity Decision

2. contents
 Introduction
 Importance of Liquidity Decision
 Estimating Liquidity needs
 Instruments of Liquidity
 Theories Of Liquidity Decision
 Liquidity Procedure

3. Terminologies
 Financial distress: It arises when a firm is not able to meet it’s
obligations to debt holder
 Cash conversion cycle: measures how long a firm will be deprived of
cash if it increases its investment in resources in order to expand
customer sales. It is thus a measure of the liquidity risk entailed by
growth.
 Inventory policy: This policy outlines that inventory is properly
controlled and losses or shortages are prevented. It applies to all
inventory items, including raw materials, work in progress, and finished
goods and consigned inventory.
 Financial Risk: Financial risk is the possibility that shareholders will
lose money when they invest in a company that has debt,

4.  Cash Reports: The Daily Cash Report is used to report on the
daily cash balance and to help manage cash on a weekly basis.
 Spontaneous Finance: Financing which flows with the volume of
sales activity during normal business operation that requires no
additional assistance from lenders or creditors.
 Credit Policy: A company's policy on when its customers should pay
for goods or service she terms and conditions for supplying goods on
credit. steps to be taken in case of customer delinquency. Also called
collection policy.
 Account Payable: Money owed by a business to its suppliers shown
as a liability on a company's balance sheet.
 ACH Payments: ACH payments are electronic payments made
through the Automated Clearing House Network. They are a popular
alternative to paper checks and credit card payments

5. Introduction
 liquidity Decision takes one of two forms based on the
definition of liquidity. One type of liquidity refers to the
ability to trade an asset, such as a stock or bond, at
its current price. other definition of liquidity applies to large
organizations such as financial institutions. Banks are
often evaluated on their liquidity, or their ability to meet
cash and collateral obligations*

6.  Liquidity* is a firm’s ability to pay it’s short term debt
obligations. If the firm has adequate liquidity, it can pay it’s
current liabilities such as account payable.
 liquidity used in combination with Cash Management.
 liquidity decision* is concerned with the management of
the current assets, which is a pre-requisite to long-term
success of any business firm. This is also called as
working capital decision.

7. Importance of Liquidity Decision
 To honor Cheque: Honoring the cheque in exchange
of deposit is the key factor of maintaining public
confidence. Although in regulation, the bank has to refund
all the deposit
 To maintain cash reserve ratio: The bank hast o
maintain sufficient amount of cash reserve to meet
statutory obligation and to maintain minimum safety.
 To meet loan demand: to make profitable investment,
bank should have sufficient cash balance.

8.  To meet administrative expenses: Bank has to pay
administrative expenses in various sectors like payment of
salary, rent, electricity charge, telephone billing etc.
 To pay bills of exchange*: it requires some fraction
of bank's liquidity to use for such transaction.
 To resolve economic fluctuation*: bank has to
maintain adequate amount of liquidity to solve the problem
created by economic fluctuation.

9. Estimating Liquidity needs
 Banks strive to maintain adequate liquidity- too much
liquidity needlessly limits bank earnings, and too little
liquidity exposes a bank to the possibility of costly
emergency measures to secure needed funds.
 Liquidity should be sufficient to cover probable fluctuations
in loans and deposits, with a small margin of excess
liquidity as a safety measure

10.  While liquidity needs cannot be predicted with certainty,
they can be closely determined by reviewing past
fluctuations in loans and deposits and by keeping a careful
watch on the current business situation.
 If a bank has carefully evaluated and planned for its
liquidity needs, it should hold a maximum liquidity when
deposits are up and loan demand is down.

11. INSTRUMENTS OF LIQUIDITY
 Liquid assets: An Asset is said to be liquid if it is easy
to sell or convert in to cash without any losses in its value.
 Cash in hand
 Statutory Liquidity Ratio
 Balances with other banks (First Line Of Defense)*
 Money at call* and short notice
 Investments
 Government securities (Bearer bonds)*

12. Liquid Liabilities are
 Time Certificates of Deposits*
 Borrowing from other commercial banks
 Borrowing from Central Bank
 Raising of Capital Funds*

13. THEORIES OF LIQUIDITY
DECISION
 Commercial-Loan Theory: The bank should refrain
from long term loans. should have short term self
liquidating obligations. The bank holds a Principle that
when money is lent against self liquidating papers, it is
known as Real Bills Doctrine.
 The Shiftablity Theory: It must fulfill the attributes of
immediate transferability to others without loss. In case of
general liquidity crisis, bank should maintain liquidity by
possessing assets which can be shifted to the Central
Bank.

14.  The Anticipated Income Theory: Must invest in
term-lending*, working capital* (is a financial metric which
represents operating liquidity available to a business) securities, but
must also be secure about the deployment and repayment
of funds. Bank must assess the potential of that person to
repay back
 Liability Management Theory: an individual bank
may acquire reserves from different sources by creating
additional liabilities against itself. These sources include a
number of items

15. LIQUIDITY PROCEDURE
 Identifying liquidity: Identifying liquidity is primarily a
function of data gathering, and does not include the actual
movement or usage of funds.
 Managing liquidity: It involves using the identified
liquidity to support the bank’s revenue generating
activities. This may include consolidating funds* ,
managing the release of funds to maximize their use.

16.  Optimizing liquidity: It is an ongoing process with a
focus on maximizing the value of the institution’s fund. It
requires strong and detail understanding of bank’s liquidity
position across all currencies, accounts, business lines
and counter parties. The biggest challenge in the liquidity
Decision process is the limited and resources available to
it.