RBI to Strengthen Liquidity Stress Tests and Assess Climate Risk for Financial Stability

Context:

The Reserve Bank of India (RBI) is set to bolster the financial system’s resilience by enhancing stress testing frameworks for Scheduled Commercial Banks (SCBs), NBFCs, and cooperative banks, alongside integrating climate transition risks into regulatory oversight.

Key Initiatives:

1. Liquidity Stress Testing for SCBs:
   • RBI will introduce a cash flow analysis framework.
   • Objective: Simulate extreme but plausible scenarios to test liquidity resilience.
   • Aims to assess:
     • Banks’ ability to meet short-term obligations
     • Adequacy of liquidity buffers
     • Depositor protection and systemic risk containment
2. Extension to NBFCs & Co-operative Banks:
   • RBI will develop an in-house liquidity stress test framework for NBFCs.
   • Similar frameworks will be designed for:
     • Rural Co-operative Banks
     • Mid-sized Urban Co-operative Banks (UCBs)
3. Climate Risk Stress Testing:
   • RBI will assess the impact of climate transition risk on:
     • Carbon-intensive sectors
     • Banks’ balance sheets with exposure to high-emission industries
4. Prudential Guidelines on Climate Risk:
   • RBI may issue final guidelines covering:
     • Disclosure of climate-related financial risks
     • Climate scenario analysis
     • Climate stress testing frameworks
5. Market Liquidity Risk Assessment:
   • Development of a framework for liquidity risk stress testing of market portfolios.
   • Will use scenarios based on past market stress events to detect vulnerabilities.
6. ‘Growth-at-Risk’ (GaR) Model:
   • RBI to develop a macrofinancial tool that:
     • Links current economic and financial indicators
     • With probabilities of future adverse economic outcomes

Significance:

• Enhances forward-looking risk management in Indian banking.
• Strengthens crisis preparedness for systemic financial institutions.
• Aligns India’s financial regulation with global climate and ESG norms.
• Reinforces depositor confidence, financial stability, and macroprudential supervision.