The deposit run that took down Credit Suisse and the 2023 US regional bank failures showed how quickly a liquidity problem can outrun a bank's assumptions. Depositors who once took days to move money can now do it in minutes through online or mobile apps. Couple this with social media and a rumour can turn into a run before a treasury team has finished its morning coffee. For community, regional and mid-size banks, institutions that tend to have less diversified funding, thinner capital buffers and in some cases entirely app-based deposit franchises, the lesson has been direct. A liquidity stress testing framework built only to satisfy a regulatory checklist will not protect the bank when it matters.

The best frameworks do two jobs at once. They meet supervisory expectations under the applicable US or UK rules and they produce numbers that treasury, ALCO and the board actually use to set limits, price funding and decide when to pull the contingency funding plan off the shelf. This article covers what a framework needs to do both, with attention to the specific pressures facing smaller and non-traditional banks on both sides of the Atlantic.

The Regulatory Backdrop

While the US and UK take different regulatory approaches, both expect smaller banks to understand how their liquidity position would perform under severe but plausible stress. Since the 2023 banking failures, supervisors in both jurisdictions have placed much greater emphasis on deposit behaviour, funding resilience and the practical usability of contingent liquidity. Increasingly, Internal Liquidity Stress Testing (ILST) has become the primary tool for demonstrating that understanding.

In the US, banks below $100 billion are not subject to the enhanced liquidity requirements under Regulation YY, including mandatory internal liquidity stress testing and standardised regulatory liquidity buffers. Instead, they are supervised under the 2010 Interagency Policy Statement on Funding and Liquidity Risk Management (SR 2010-06), which requires banks to maintain sound liquidity governance, perform liquidity stress testing, diversify funding sources, maintain a contingency funding plan and hold a cushion of unencumbered high-quality liquid assets appropriate for their risk profile.2

The UK takes a more prescriptive approach by requiring smaller banks, including Small Domestic Deposit Takers (SDDTs), to comply with the Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR). Through the Internal Liquidity Adequacy Assessment Process (ILAAP), firms are expected to assess whether their liquidity resources remain sufficient under stresses that reflect their own funding profile, business model and vulnerabilities.3

The reporting burden also differs between the two jurisdictions. US community banks generally submit less granular liquidity reporting, with supervisors relying more heavily on the examination process. The UK scales reporting requirements more gradually, reducing reporting obligations for smaller firms while retaining regular regulatory returns.1

Since 2023, supervisory expectations have become more demanding in both jurisdictions. In the US, examiners have increased their focus on uninsured deposit concentrations, deposit runoff assumptions, unrealised securities losses and the credibility of contingency funding plans. In the UK, the PRA has proposed more severe firm-specific stress scenarios, greater emphasis on demonstrating that liquid assets can actually be monetised under stress and stronger evidence that firms can access central bank facilities when needed.

Whichever side of the Atlantic a bank sits on, supervisors are increasingly asking the same question: not "do you hold enough liquid assets on paper," but "can you demonstrate, through credible internal stress testing, that your liquidity resources will remain sufficient under a realistic stress event?"

Building a Robust ILST Framework

A credible ILST framework is not simply a regulatory exercise designed to demonstrate compliance. When properly designed, it provides management with a forward-looking assessment of liquidity resilience which encompasses the identification of funding vulnerabilities, testing liquidity capacity under stress and determining whether available resources can be converted into cash when needed. The most effective frameworks are built around several core components:

1. Understanding the Funding Base, Depositor and Funding Segmentation

The foundation of any ILST framework is a clear understanding of the bank's funding profile. A framework that stress-tests "total deposits" as a single pool will misstate risk in both directions. A well-designed segmentation approach considers multiple dimensions:

  • Insurance status, insured retail, uninsured retail and uninsured business/commercial deposits, where insured balances have historically demonstrated greater stability while uninsured balances are generally more sensitive to confidence events
  • Relationship type, operational accounts such as payroll and transaction accounts, versus non-operational, excess-cash or rate-sensitive balances with limited relationship attachment
  • Channel and acquisition source, branch-acquired deposits, digitally acquired deposits and deposits sourced through fintech partnerships or banking-as-a-service (BaaS) arrangements, which can behave differently under stress
  • Sector and geographic concentration, exposure to specific industries, large employers, municipalities or geographic markets where deposit outflows may occur in a correlated manner
  • Wholesale and secured funding sources, brokered deposits, Federal Home Loan Bank advances, correspondent funding and repo arrangements, each with different renewal, collateral and market-access risks

Each segment should have its own behavioural runoff and repricing assumptions. Segmentation should also evolve as the funding profile changes, a new BaaS partnership or rapid growth in a specific deposit channel should trigger a reassessment of stress assumptions rather than waiting for the annual model refresh.

2. Design Scenarios That Reflect How Liquidity Stress Actually Occurs

The purpose of ILST scenario design is not to predict the next crisis, but to test whether the bank has sufficient liquidity resilience under a range of plausible stress events. An effective framework should include multiple scenario families:

  • Idiosyncratic, a bank-specific event such as a reputational issue, fraud event, operational disruption or credit downgrade that triggers depositor and counterparty confidence concerns
  • Market-wide (systemic), a broader industry or market shock such as rising rates, declining securities values or loss of confidence across a category of institutions
  • Combined, a simultaneous institution-specific and market-wide event, which is typically the binding scenario and increasingly reflects supervisory expectations for a severe stress case
  • Less than well capitalised, capital deterioration that moves the bank below "well capitalised" status (US) or breaches key capital buffers (UK), resulting in funding constraints and increased supervisory attention

Scenario severity should be calibrated against observed market events. The deposit outflows experienced during the 2023 regional banking failures have changed supervisory expectations, assumptions that produce materially lower runoff rates should be supported by clear evidence regarding the stability and behaviour of the bank's own funding base.

3. Time Horizons

Stress testing should generally consider three horizons:

  • Immediate, overnight and first-week liquidity needs (modelled daily), where rapid digital withdrawals and confidence events can create acute pressure
  • Short-term, typically through 30 days (modelled daily), capturing the period where funding actions, asset sales and contingency plans are executed
  • Longer-term, extending to 90 days or beyond (typically modelled monthly) where structural funding resilience and balance sheet adjustments are assessed

The short end is where the framework earns its keep: the PRA's proposed severe one-week scenario reflects a recognition that a bank can be balance-sheet-solvent and still fail inside five days if it cannot convert assets to cash fast enough.5 US examiners are asking the same question in practice even without a formal one-week rule.

4. Behavioural Assumptions, Not Just Contractual Ones

Contractual maturity tells you almost nothing useful in a stress scenario. The framework at minimum should include behavioural runoff assumptions for:

  • Uninsured versus insured deposits as well as deposits held via BaaS or fintech partnership arrangements, which can behave more like wholesale funding than sticky retail deposits
  • Operational versus non-operational relationships, a business's payroll account behaves very differently from an excess-cash sweep account at the same company
  • Digital channel effects, app-based and online-only banks should assume faster, higher-magnitude runoff than a legacy branch network, because the friction that used to slow a run has been engineered away
  • Correlated behaviour within concentrated depositor segments, a single industry vertical, large corporate relationship, geography or social-media community that shares information quickly

5. Demonstrate Available Liquidity Is Real, Not Theoretical

A liquidity buffer only provides protection if it can be converted into cash when needed. A robust ILST framework should test at minimum:

  • Central bank access, collateral eligibility, operational readiness and the ability to draw from the Federal Reserve's facilities in the US or Bank of England facilities in the UK
  • Asset monetisation capacity, whether securities can actually be sold or pledged within the assumed timeframe and at realistic haircuts
  • Committed funding sources, whether committed lines, correspondent facilities and other funding arrangements remain available under stress conditions

6. Reverse Stress Testing

Rather than only asking "how much cash do we lose in scenario X," reverse stress testing asks "what combination of events would exhaust our liquidity buffer and which assumptions would fail first given what we know about our depositor base." This forces explicit conversations about concentration risk that forward-looking scenarios can obscure and is one of the most useful management tools in the whole framework.

7. Establish Governance, Challenge and Escalation

The difference between a compliance exercise and a management tool is whether ILST results influence decisions before a crisis occurs. An effective framework should at minimum:

  • Establish clear ownership through ALCO, with board oversight of liquidity risk appetite
  • Include independent challenge from risk management rather than relying solely on treasury assumptions
  • Incorporate periodic model validation and assumption review
  • Link stress testing results directly to contingency funding plans and recovery planning

ILST outputs should also influence day-to-day management decisions including early-warning indicators, deposit pricing, balance sheet growth decisions and contingency funding plan activation triggers. Board reporting should focus on actionable measures such as liquidity survival horizons under named stress scenarios rather than only regulatory ratios.

Our Perspective

Regulators on both sides of the Atlantic have converged on the same hard-won lesson: liquidity crises now move at the speed of a mobile app and liquidity stress testing frameworks should be judged by whether they would have identified the vulnerabilities exposed by the banking failures of 2023, not simply whether they satisfy a regulatory checklist. For community, regional and mid-size banks, that means resisting the temptation to treat proportionality as an excuse for limited analysis.

In our experience, the most effective ILST frameworks share six characteristics:

  • They begin with a deep understanding of the bank's funding base and depositor behaviour
  • They use severe but plausible scenarios calibrated to the bank's own risk profile
  • They demonstrate that available liquidity can be accessed and monetised under stress
  • They are supported by strong governance, independent challenge and regular validation
  • They directly inform funding strategy, risk appetite, contingency planning and board decision-making
  • They evolve as the balance sheet, funding mix and regulatory expectations change

The strongest ILST frameworks become management tools rather than regulatory artefacts. They shape funding strategy, balance sheet composition, liquidity risk appetite and contingency planning long before a supervisory review, or a crisis, puts them to the test. Ultimately, the objective is not simply to demonstrate compliance, but to build a balance sheet that remains resilient when confidence is under pressure.