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By Dr. Vera Songwe, Nonresident Senior Fellow, Africa Growth Initiative, Brookings<\/p>\n\t\t\t2<\/p>\n
By Dr. Vera Songwe, Nonresident Senior Fellow, Africa Growth Initiative, Brookings<\/p>\n
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The Liquidity Coverage Ratio (LCR) is one of the most consequential reforms to emerge from Basel III (the third of the three Basel Accords issued by the Basel Committee on Banking Supervision [BCBS]). Introduced after the Global Financial Crisis (GFC), it was designed to ensure that banks hold sufficient high-quality liquid assets (HQLA) to survive a severe 30-day stress scenario without immediately relying on emergency official support.1 In that narrow sense, the reform has been a success: Banks today are structurally more liquid than they were before 2008, and systemwide resilience to short-term funding shocks is materially stronger.2,3<\/p>\n
The issue is no longer whether the LCR makes banks safer; it is whether the cost of that safety is being borne in ways that adversely affect investment, growth and financial structure. <\/p>\n
In the current environment, in which the need for climate-transition investment is at an all-time high and global growth is low, the urgency to ensure that policy does not impede investment is growing. The issue is no longer whether the LCR makes banks safer; it is whether the cost of that safety is being borne in ways that adversely affect investment, growth and financial structure.<\/p>\n
In Europe, EMDEs (emerging markets and developing economies) and Africa, in particular, where banks remain central to business finance and long-term credit intermediation, very high liquidity buffers are impacting the economics of lending to infrastructure, small and medium-sized enterprises (SMEs) and energy-transition projects.4 In emerging markets and developing economies, the same framework can be harder to implement because domestic pools of liquid assets are smaller, local markets are shallower, and banks play an even more dominant role in financing economic development.5,6 In Africa, where the need for investment is greatest, the consequences are more acute.<\/p>\n
For many countries facing multiple exogenous shocks, high costs of capital and dwindling concessional capital, the current question is how liquidity regulation under Basel III can be made more context-sensitive. How can the reform account for the real trade-offs between financial-sector resilience and growth-enhancing investment? Financing the transition, particularly in many EMDEs and in Africa, with their huge demographic pressures, is existential. Financials are more remote. It is feasible, but only in a system that understands the tensions and can calibrate them based on the system\u2019s impacts on national, regional and global financial markets. This is absent today.5,7<\/p>\n
Why the LCR matters after 2008<\/p>\n
The Basel Committee developed the LCR in response to a core lesson of the 2008 crisis: Many banks that appeared well-capitalised could still fail quickly when wholesale funding evaporated, and supposedly liquid assets became difficult to sell without deep discounts. The LCR\u2019s structure was meant to prevent this by requiring banks to hold a stock of unencumbered HQLA at least equal to their total projected net cash outflows over 30 days under a severe-stress scenario.1<\/p>\n
That logic remains compelling. Pre-crisis banking models underpriced liquidity risk, relied excessively on unstable short-term funding and assumed market liquidity would remain available even during systemic stress.1 The 2013 revisions to the rule broadened the definition of eligible liquid assets and eased some parameters, but the underlying principle remained intact: Banks should maintain a credible liquidity buffer that can be used when markets freeze.<\/p>\n
The rule\u2019s strength, however, is also the source of its economic tension. Because it privileges cash, central-bank reserves and sovereign paper, it naturally raises the regulatory value of liquid assets relative to long-dated, illiquid and harder-to-trade exposures.7,8 That means the LCR does not merely protect banks; it changes their incentives, their balance-sheet compositions and, potentially, the volume and tenor of credit they are willing to extend.7 For Africa, it created a definition that did not provide for a diversified base of HQLA.<\/p>\n
The numbers show stronger liquidity<\/p>\n
On aggregate metrics, the Basel III liquidity reforms have worked. The Basel Committee\u2019s monitoring exercise based on end-June 2024 data found that the weighted average LCR for Group 1 internationally active banks stood at 136 percent, comfortably above the 100-percent requirement. For Group 2 banks in the balanced sample, the weighted average LCR reached 194 percent, with no aggregate shortfall since June 2017.2<\/p>\n
In Europe, the numbers are even more striking. The European Banking Authority (EBA) reported that European Union (EU) banks\u2019 average LCR rose by three percentage points between June 2023 and June 2024 to reach 167 percent, supported by increased holdings of liquid assets.3 Earlier EBA monitoring had already shown that the average LCR stood at around 149 percent in both June and December 2018, with an aggregate gross shortfall of \u20ac15.7 billion concentrated in just four banks that had monetised buffers in stress conditions.9 The regulation is binding, and banks are adhering\u2014excessively.<\/p>\n
Europe: safer banks, but at what cost to investment?<\/p>\n
Europe\u2019s experience is important because its financial system, like Africa\u2019s, remains more bank-based than that of the United States. European firms, especially SMEs, still depend heavily on bank intermediation, which means that prudential-liquidity rules affect not only treasury portfolios but also credit supply, loan maturity and investment financing.4 Understanding the impacts of the reform on Europe helps to understand the impacts on EMDEs and Africa in particular.<\/p>\n
In both Europe and Africa, inherent tension exists. Banks that seek to optimise their LCRs have an incentive to hold more sovereign bonds, reserves and other HQLA, all else equal.1,7 But balance-sheet space is finite. The larger the commitment to liquid assets, the greater the opportunity cost for lending activities, such as project finance, infrastructure credit or other forms of long-duration lending with cash flows that are less liquid and regulatory treatment less favourable under the Basel III framework.4,7<\/p>\n
Africa, even more than Europe, must acquire the resources to finance decarbonisation, the energy transition, and transport and logistics infrastructure; develop a mineral value-addition industrial policy; close the digital gap and address increasing security issues. If prudential rules steer banks too strongly toward liquid sovereign assets and away from private long-term lending, the result may be a safer banking system that is less effective at supporting the very growth needed to sustain financial stability.4<\/p>\n
The sovereign-bank nexus complicates the picture further in Africa. Because sovereign bonds are the most, if not the only, regulatory-efficient forms of HQLA, banks have a natural incentive to hold them in large sizes. As in Africa and the euro area, this can reinforce home biases and keep banking-sector liquidity management tightly linked to national fiscal conditions. The framework, therefore, reduces some kinds of risk while potentially deepening another: the feedback loop between sovereign stress and banks\u2019 balance sheets.10<\/p>\n
EMDEs: Basel rules in shallower markets<\/p>\n
EMDEs face a harder version of the same problem because the Basel III template was designed largely around large, internationally active banks operating in deep markets with broad sovereign yield curves, functioning repo (repurchase agreement) markets and abundant domestic HQLA.1,5 Many EMDEs lack those conditions.6<\/p>\n
EMDEs often confront narrow local-currency bond markets, more volatile capital flows, greater foreign-exchange risks and supervisory systems that are still deepening. In that setting, strict implementation of the LCR can produce unintended consequences: concentrated sovereign holdings, substitution into foreign-currency liquid assets and a reduced appetite for long-term domestic lending.5<\/p>\n
The external financing environment now makes these vulnerabilities more acute. The International Monetary Fund (IMF) reported in April 2026 that cumulative portfolio flows to emerging markets had increased eightfold since the Global Financial Crisis to around $4 trillion, while portfolio-debt liabilities in emerging markets averaged roughly 15 percent of gross domestic product (GDP), up from 9 percent in 2006.11,12 The Fund also found that nonbanks now provide 80 percent of this capital, roughly double the share seen two decades earlier.11 EMDEs are therefore more connected to market finance but also more exposed to changes in nonbank investor behaviour.12<\/p>\n
This shift matters for the LCR because a bank can comply with a liquidity ratio while the market liquidity of its supposed liquid assets deteriorates under stress. If foreign portfolio investors sell EM sovereign debt aggressively, local yields can spike, currencies can weaken, and the marketability of bank-held HQLA can fall at precisely the moment those buffers are supposed to be usable.12,13 The IMF\u2019s recent warning about \u201cflighty\u201dhedge-fund capital in emerging markets highlights this systemwide fragility.11,13<\/p>\n
This is why the debate in EMDEs cannot be limited to whether banks satisfy the LCR on paper. The deeper question is whether the assets counted as HQLA remain reliably liquid under the specific stress conditions most relevant to these economies\u2014sudden stops, foreign-exchange pressures and sharp nonresident outflows.5,6<\/p>\n
Africa: liquidity resilience amid development scarcity<\/p>\n
What Africa faces highlights an even deeper tension; it illustrates both the usefulness and the limits of the Basel III liquidity reform. Across the continent, implementation has been predictably uneven, reflecting differences in market depth, supervisory capacity, currency structure and the availability of domestic liquid assets.14,15<\/p>\n
An Alliance for Financial Inclusion (AFI) survey found that 68 percent of African jurisdictions and respondents had implemented Basel III in some form, but only 14 percent had fully adopted the framework, while 54 percent had implemented it partially. Among those partial adopters, capital requirements and the LCR were among the most commonly prioritised elements.14 This indicates that African regulators are not rejecting Basel III.14,15<\/p>\n
Evidence suggests that this approach has yielded real stability benefits. A 2022 study of 45 listed banks across six African countries found an average LCR of 181.7 percent and concluded that, among the Basel III variables examined, the LCR was the only one with a statistically significant positive effect on bank stability.16<\/p>\n
However, Basel III rules risk penalising African systems if the net result is that they raise funding costs and encourage banks to favour government securities over private-sector credit in economies where long-term finance is already scarce. This is not an abstract fear. In many African markets, sovereign paper is one of the few readily available forms of HQLA, which means the LCR can naturally tilt balance sheets toward public debt and away from SME lending, infrastructure finance and trade-supporting credit.5<\/p>\n
Country evidence illustrates the point. South Africa\u2019s banking-system LCR trended upward from 2015 to 2022 and remained above the Basel threshold throughout the period, with a notable dip only around the 2020 shock, before recovering.17 This high concentration of HQLA in the form of government securities is happening at the same time that South Africa is facing huge challenges accessing the market to fund growth or accelerate the green-transition agenda. If banks are highly liquid while development-finance gaps remain large, is the regulatory mix adequately supporting productive intermediation?18<\/p>\n
Finding the optimal intersection between stability and growth is the challenge. For Africa, the answer is unlikely to be a wholesale dilution of Basel III. A more credible path would include broader recognition of domestic liquid instruments wherever appropriate, stronger collateral and repo infrastructures, targeted tools to address foreign-currency liquidity risks and greater use of development-finance and\/or central-bank facilities to complement balance-sheet liquidity requirements.5 In short, the continent may need Basel III discipline\u2014but not Basel III by rote.15<\/p>\n
What recalibration should look like<\/p>\n
The best supportive policy response for growth, job creation and investment, as discussed earlier, is not to abandon deregulation but to recalibrate it. <\/p>\n
The best supportive policy response for growth, job creation and investment, as discussed earlier, is not to abandon deregulation but to recalibrate it. For Europe, it means confronting the sovereign-bank nexus more directly, ensuring that the prudential stack does not unduly penalise productive long-term lending and widening macroprudential attention to nonbank liquidity mismatches.19 For EMDEs, it means applying Basel III proportionally, adjusting HQLA definitions wherever justified, managing foreign-currency liquidity risk explicitly and recognising that shallow markets require different implementation paths.5,6 For Africa, it means sequencing reform around market development, supervisory capacity and development priorities rather than adopting advanced-economy templates wholesale.14,15<\/p>\n
Financial stability and growth must align. Investment and low-cost finance are the most important resources needed in Europe, EMDEs and Africa. A more mature regulatory framework must bridge liquidity policy, focusing not only on whether banks can survive 30 days of stress but also on whether the financial system can continue to fund investment without amplifying systemic fragility. The LCR succeeded in forcing banks to value liquidity more highly. The next stage of Basel III should ensure that, in doing so, regulators do not end up undervaluing investment.1,7 With Europe and EMDEs facing the same challenges, this is hopefully one piece of Basel III reform that garners immediate support. It is more than friction; it is material for growth.<\/p>\n
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ABOUT THE AUTHOR<\/p>\n
Vera Songwe is a nonresident senior fellow in the Global Development and Africa Growth Initiative at the Brookings Institution. She is the founder and chair of the board of the Liquidity and Sustainability Facility, as well as Professor in Practice at the London School of Economics\u2019s Centre for Economic Transition Expertise (CETEx). Previously, she served as United Nations Under-Secretary-General and Executive Secretary of the United Nations Economic Commission for Africa.<\/p>\n
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References<\/p>\n
1 Bank for International Settlements (BIS): \u201cBasel III: The Liquidity Coverage Ratio and liquidity risk monitoring tools<\/a>,\u201d January 7, 2013.<\/p>\n 2 Bank for International Settlements (BIS): \u201cHighlights of the Basel III monitoring exercise as of 30 June 2024<\/a>.\u201d<\/p>\n 3 European Banking Authority (EBA): \u201cEU banks\u2019 liquidity coverage ratio increased in June 2024, underpinned by growth in banks\u2019 holdings of liquid assets<\/a>,\u201d December 13, 2024.<\/p>\n 4 Banque de France: \u201cFinancial Stability Review,<\/a>\u201d No. 19.<\/p>\n 5 \u201cMaking Basel III Work for Emerging Markets and Developing Economies<\/a>,\u201d Thorsten Beck, Erik Jones and Peter Knaack, 2019. See the Center for Global Development (CGD) Task Force Report.<\/p>\n 6 Centre for Economic Policy Research (CEPR)\/VoxEU: \u201cMaking Basel III work for emerging markets<\/a>,\u201d Liliana Rojas-Suarez and Thorsten Beck, May 4, 2019.<\/p>\n 7 Moody\u2019s Analytics: \u201cOptimizing Assets under Basel III LCR Requirements<\/a>,\u201d Lorenzo Boldrini and Yashan Wang, January 2020.<\/p>\n 8 Morgan Stanley: \u201cBasel III: Impact on the Money Markets<\/a>,\u201d 2018.<\/p>\n 9 European Banking Authority (EBA): \u201cEBA publishes the regular Basel III capital monitoring report and an update on liquidity measures<\/a>.\u201d<\/p>\n 10 World Bank\/International Monetary Fund (IMF) analysis on South Africa\u2019s sovereign-financial nexus.<\/p>\n 11 IMF Blog: \u201cAs Emerging Markets Attract More Nonbank Capital, They Also Face New Challenges<\/a>,\u201d Salih Fendoglu, Mahvash S. Qureshi and Felix Suntheim, April 7, 2026.<\/p>\n 12 International Monetary Fund (IMF): \u201cCapital Flows to Emerging Markets: The Role of Global Nonbank Investors<\/a>,\u201d Global Financial Stability Report, April 2026, Chapter 2.<\/p>\n 13 Financial Times: \u201cIMF warns of emerging markets\u2019 exposure to \u2018flighty\u2019 hedge funds<\/a>,\u201d Delphine Strauss, April 7, 2026.<\/p>\n 14 Alliance for Financial Inclusion (AFI): \u201cSurvey Report on the Implementation of the Basel Framework<\/a>,\u201d September 21, 2018.<\/p>\n 15 Munich Personal RePEc Archive (MPRA)\/Emerald Insight: \u201cBasel III in Africa: Making It Work<\/a>,\u201d Peterson K. Ozili, 2019.<\/p>\n 16 Scientific Research Publishing (SCIRP): \u201cBanking Regulation Effects on African Banks\u2019 Stability<\/a>,\u201d Ayodeji Michael Obadireorcid, December 2022, Journal of Financial Risk Management, Volume 11, Number 4.<\/p>\n 17 Statista: \u201cLiquidity-coverage ratio (LCR) of the banking industry in South Africa from 2015 to 2022<\/a>.\u201d<\/p>\n 18 Banco de Mo\u00e7ambique: \u201cFinancial Stability Bulletin \u2013 2024<\/a>,\u201d December 19, 2024.<\/p>\n 19 Financial Times: \u201cLetter: Europe cannot escape the contagion in private credit<\/a>,\u201d Rosemary McCollin, April 1, 2026.<\/p>\n 20 Financial Times: \u201cEurope needs more private credit, not less<\/a>,\u201d Richard Milne, March 25, 2026.<\/p>\n