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LINKAGE BETWEEN CREDIT RISK AND LIQUIDITY RISK IN INDIAN BANKS: A COMPARISON OF THE PRE & POST BASEL 3 CONDITIONS

Paper Number :WP/05/2021
Publication Date :Nov. 1, 2021


This paper investigates if there exists any inter-linkage between credit risk and liquidity risk and examines key contributing factors to determine both the risks for the scheduled commercial banks in India. We have used a panel data of total 43 public and private commercial banks in India during the period 2010-2019 to assess the linkage between two major risk sources in the light of implementation of Basel 3 norms by Reserve Bank of India in 2015. Our results indicates that before Basel 3 norms during 2010-14, non-performing assets leads to significant reduction in liquid assets, thus reducing liquidity both for 90 days as well 365 days horizon. Hence, credit risk was significantly impacting liquidity risk position of Indian banks. However, neither capital, nor macroeconomic indicators have any significant impact on liquidity risk. In the post Basel 3 era (2015-19), effect of credit risk over liquidity risk (up to one year) has been insignificant. However, we observe that capital and macroeconomic factors have significant influence on liquidity risk. Higher is the capital position of banks, better is their liquidity situations. Our empirical results reveal that Basel 3 norms implementation by RBI has strengthened the liquidity situation of Indian banks