Economic capital is what for example a bank has and uses in order to stay solvent. Isn't this in a way a liquidity buffer? or what would be the difference between them?


Different sides of the balance sheet.

  • Capital represents long-dated instruments (infinite lifetime in the case of common equity) issued by a bank that are subordinated in a way to make them comparable to equity. (Can include instruments that are technically liabilities.) The existence of capital means that assets are greater than non-capital liabilities, i.e., the bank remains solvent.
  • A liquidity buffer are assets that are deemed liquid, which means that they can be readily sold at prices near carrying value to meet payment requirements. Note that a solvent entity that only holds hard-to-liquidate assets may be unable to meet a sudden payment obligation. That is, it is solvent, but illiquid.
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  • $\begingroup$ - What happens if a bank is solvent yet illiquid? Would they have to use the illiquid asset as collateral and take a loan on that? $\endgroup$ – curiousTrader Jun 12 at 20:45
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    $\begingroup$ They would need to go to the central bank to be bailed out. If something is illiquid, you can’t easily borrow against it. $\endgroup$ – Brian Romanchuk Jun 12 at 21:48

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