The Fed has posted an interesting research note on how banks use internal liquidity from different jurisdictions to manage capital. While the original article posted in July 2011, there are some useful insights for today.
Global Banks and Their Internal Capital Markets during the Crisis
Nicola Cetorelli and Linda S. Goldberg
As financial markets have become increasingly globalized, banks have developed growing networks of branches and subsidiaries in foreign countries. This expansion of banking across borders is changing the way banks manage their balance sheets, and the ways home markets and foreign markets respond to disturbances to financial markets. Based on our recent research, this post shows how global banks used their foreign affiliates for accessing scarce dollars during the financial crisis—a liquidity strategy that helped transmit shocks internationally while reducing some of the consequences in the stressed locations.
There are important questions associated with the strategy applied to funding and liquidity decisions of global banks. One question concerns the role of “internal” capital markets, where funding shocks to one part of an organization can be accommodated with an internal transfer of funds from another part that was affected less by the underlying shock. If the head office of a U.S. global bank has funding needs, would we expect the bank to borrow internally from its overseas operations? Such a funding strategy opens up interesting issues regarding the way funding shocks may propagate across national borders.
Our research shows that global banks adopt a rather global approach to funding and liquidity management and that internal capital markets respond to exogenous market funding shocks. A liquidity shock no longer starts and ends on the balance sheet of a given bank; rather, it extends and links together balance sheets of the same organization across borders. So, to the extent that monetary policy attempts to affect the real economy by modifying the amount of lending done by banks domestically (the so-called lending channel of monetary policy), increasingly globalized banking implies more insulation from domestic funding shocks and, therefore, a diminishing impact for policy. This does not necessarily mean that the overall effect of policy is weakened: instead, the impact would increasingly be felt beyond domestic borders. Hence, banks managing liquidity globally may increase the international propagation of domestic liquidity disturbances.
Read more here.