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Answer: Liquidity risk is inaccurate, but the other three are correct
## Explanation The correct answer is **A** because the definition of **Liquidity risk** is inaccurate, while the other three definitions are correct. ### Analysis of Each Definition: 1. **Liquidity Risk (Inaccurate)**: - The given definition describes liquidity risk as "the event that in the future the bank receives smaller than expected amounts of cash flows to meet its payment obligations." - This is incorrect because liquidity risk actually refers to the risk that a bank will be unable to meet its payment obligations when they come due, without incurring unacceptable losses. It's not just about receiving smaller cash flows, but about the inability to convert assets into cash or obtain funding to meet obligations. 2. **Funding Cost Risk (Correct)**: - This accurately describes the risk that a bank will have to pay higher-than-expected spreads above the risk-free rate to obtain funding from available liquidity sources. 3. **Liquidity Generation Capacity (Correct)**: - This correctly defines a bank's ability to generate positive cash flows beyond contractual obligations from both on-balance-sheet and off-balance-sheet liquidity sources. 4. **Cash Flow at Risk (CFaR) (Correct)**: - This properly defines CFaR as the amount of economic losses resulting from deviations between actual and expected cash flow positions at a given date. Therefore, only the liquidity risk definition is inaccurate, making option A the correct choice.
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Consider the following four definitions related to liquidity risk:
Liquidity risk: The event that in the future the bank receives smaller than expected amounts of cash flows to meet its payment obligations.
Funding cost risk: The event that in the future the bank has to pay greater than expected cost (spread) above the risk-free rate to receive funds from sources of liquidity that are available.
Liquidity generation capacity: The ability of a bank to generate positive cash flows, beyond contractual ones, from the sources of liquidity available in the balance sheet and off the balance sheet at a given date.
Cash flow at Risk (CFaR): The amount of economic losses due to the fact that on a given date the algebraic sum of positive and negative cash flows and of existing cash available at that date, is different from some (desired) expected level.
About these definitions, which of the following statements is TRUE?
A
Liquidity risk is inaccurate, but the other three are correct
B
Funding cost risk is inaccurate, but the other three are correct
C
Cash risk at Risk (CFaR) is inaccurate, but the other three are correct
D
All four definitions are correct