Banks’ Foreign Currency Revaluations and Liquidity Creation

Vladimir Sokolov () and Alexey Gorodilov ()
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Vladimir Sokolov: National Research University Higher School of Economics
Alexey Gorodilov: National Research University Higher School of Economics

HSE Working papers from National Research University Higher School of Economics

Abstract: We examine the relationship between net revaluations of foreign currency-denominated assets and liabilities and banks' liquidity creation. Our findings reveal a significant effect on FX-USD liquidity creation: revaluations enhance liquidity creation on the asset side but diminish it on the liability side, leading to a total neutral effect. Subsample analysis reveals that banks with positive FX mismatches face liquidity destruction in FX-USD liabilities during exchange rate shocks, whereas negatively FX-mismatched banks use these shocks to extend long-term FX loans, balancing total liquidity creation. For accounts denominated in the domestic currency, no significant effects of net revaluations are observed for liquidity creation on the full sample. For positively FX-mismatched banks net revaluations enhance total liquidity creation, while for negatively FX-mismatched banks reduce it, resulting in an overall neutral outcome for domestic currency liquidity creation. Furthermore, regulatory capital moderates the impact of revaluations on liquidity creation through the financial fragility mechanism. These results underscore the complex interplay of currency risks, balance sheet FX mismatches, and regulatory dynamics in influencing liquidity creation in emerging markets.

Keywords: liquidity creation; currency revaluation; bank’s capital; foreign currency mismatch (search for similar items in EconPapers)
JEL-codes: G21 G28 (search for similar items in EconPapers)
Pages: 23 pages
Date: 2025
New Economics Papers: this item is included in nep-mon
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Published in WP BRP Series: Financial Economics / FE, March 2025, pages - 23

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