Banks participate in foreign exchange transactions. When buying / selling them, an asset (requirement) is formed in this currency and there is a liability (liability) formed in another. Therefore, banks have claims and liabilities in several different currencies that are strongly influenced by exchange rates.
The probability of loss or gain as a result of adverse changes in exchange rates is called currency risk.
The ratio of the bank’s assets and liabilities in foreign currency determines its currency position. If the requirements and obligations of the bank in a certain currency are equal, the currency position is closed, but if there is a discrepancy – it is called open. The closed agreement is a relatively stable state of the banking sector. But it is impossible to profit from a change in the exchange rate with this agreement. The open one, on the other hand, can be “long” or “short”. The position is called “long” (if the requirements exceed the obligations) and “short” (the obligations exceed the requirements). The long position in a certain currency (when the Bank’s assets in the currency exceed its liabilities) carries the risk of loss if the exchange rate of this currency falls Short currency position (when the liabilities in this currency exceed its assets) carries the risk of loss if the exchange rate of this currency rose.
The following operations affect the currency positions of banks:
• Receipt of interest and other income in foreign currency.
• Conversion operations with immediate delivery of funds
• Operations with derivatives (forward and futures transactions, settlement forwards, swap transactions, etc.) for which there are requirements and obligations in foreign currency, regardless of the manner and form of settlement for such transactions.
To avoid currency risk, we must strive for a closed position for each currency. It is possible to compensate for the imbalance of assets and liabilities with the volume of bought and sold currency. Therefore, commercial banks need to create effective systems for managing currency risks. The authorized bank may have an open currency position from the date of receipt by the National Bank of a license to conduct operations with currency values. To avoid risks or losses in foreign exchange transactions; The central bank sets the standards for an open currency position. This approach to currency risk management is based on international banking practices as well as the recommendations of the Basel Committee on Banking Supervision. In the UK, the parameters of the open currency position are limited to 10% and 15% of the bank’s capital, and in France 15% and 40%, respectively in the Netherlands – 25%.
Currency positions are recorded in the account at the end of the day. If the bank has an open currency position, changes in the exchange rate lead to profit or loss. Therefore, the Central Bank is taking measures to exclude sharp fluctuations in the exchange rate