Liquidity

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FOCUS ON LIQUIDITY MANAGEMENT

INTRODUCTION We often hear the word liquidity used in combination with cash management. Liquidity is a firm's ability to pay its short-term debt obligations. In other words, if the firm has adequate liquidity, it can pay its current liabilities such as accounts payable. Usually, accounts payable are debts owe to our suppliers. There are methods we can use to measure liquidity. Financial ratio analysis will help us determine how liquid firm is or how successful it will be in meeting its short-term debt obligations. The current ratio will help us determine the ratio of current assets to current liabilities. Current assets include cash, accounts receivable, inventory, and occasionally other line items such as marketable securities. We need to have more current assets than current liabilities on our balance sheet at all times. The quick ratio will allow determining if we can pay your short-term debt obligations, or current liabilities, without having to sell any inventory. It's important for a firm to be able to do this because, if we sell have to sell inventory to pay bills that means we have to find a buyer for that inventory. Finding a buyer is not always easy or possible. There is various other measure of liquidity that you will want to use to determine our cash position. When your business is just starting up, we essentially run it out of a check book, which is an example of cash accounting. As long as there is cash in the account, our business is solvent. As business becomes more complex, we will have to adopt financial accounting. However, we have to keep a focus on liquidity and cash management even though our track net income through financial accounting.

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FOCUS ON LIQUIDITY MANAGEMENT

PURPOSE This document sets out the minimum policies and procedures that each institution needs to have in place and apply within its liquidity management programme, and the minimum criteria it should use to prudently manage and control its liquidity. Although this document focuses on the institution’s responsibility for managing liquidity, and is intended to address liquidity management within the context of a strategic liquidity plan under ordinary or reasonably expected business conditions, liquidity management cannot be conducted in isolation from other asset/liability management considerations, such as interest and foreign exchange rate risk, or other risks. However, since liquidity determines the dayto-day viability of an institution, it must remain the principal consideration of asset/liability management. Moreover, this document presents the management of liquidity undifferentiated as to currency denomination, since in principle, through the foreign exchange markets, commitments in one currency may be met by the availability of funds in another. However, institutions that conduct substantial business in foreign currencies need to make distinctions between the management of liquidity in domestic currency (Jamaican dollars) and that in other currencies.

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FOCUS ON LIQUIDITY MANAGEMENT

DEFINITION Liquidity is the availability of funds, or assurance that funds will be available, to honour all cash outflow commitments (both on- and offbalance sheet) as they fall due. These commitments are generally met through cash inflows, supplemented by assets readily convertible to cash or through the institution’s capacity to borrow. The risk of illiquidity may increase if principal and interest cash flows related to assets, liabilities and off-balance sheet items are mismatched.

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FOCUS ON LIQUIDITY MANAGEMENT

LIQUIDTY MANAGEMENT PROGRAMME 1 Managing liquidity is a fundamental component in the safe and sound management of all financial institutions. Sound liquidity management involves prudently managing assets and liabilities (on- and offbalance sheet), both as to cash flow and concentration, to ensure that cash inflows have an appropriate relationship to approaching cash outflows....
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