However, it is highly unusual for a bank to adopt a cash matching strategy.

Liquidity Management

The continuous process of raising new funds or investing surplus funds is known as liquidity management. If we consider that a gap today is funded, by balancing assets and liabilities and thus squaring-off the book, the next day a new deficit or surplus is generated which also has to be funded. The liquidity management decision must cover the amount required to bridge the gap that exists the following day, as well as position the book across future dates in line with the banks view on interest rates.

Usually in order to define the maturity structure of debt a target profile of resources is defined. This may be done in several ways. If the objective of ALM is to replicate the asset profile with resources, the new funding should contribute to bringing the resources profile closer to that of the assets, that is, more of a matched book looking forward. This is the lowest-risk option. Another target profile may be imposed on the bank by liquidity constraints. This circumstance may arise if for example the bank has a limit on borrowing lines in the market so that it could not raise a certain amount each week or month. For instance, if the maximum that could be raised in one week by a bank is $10 million, the maximum period liquidity gap is constrained by that limit. The ALM desk will manage the book in line with the target profile that has been adopted, which requires it to try to reach the required profile over a given time horizon.

Managing the banking books liquidity is a dynamic process, as loans and deposits are known at any given point, but new business will be taking place continuously and the profile of the book looking forward must be continuously rebalanced to keep it within the target profile. There are several factors that influence this dynamic process, the most important of which are reviewed below.

Demand Deposits

Deposits placed on demand at the bank, such as current accounts (cheque or checking), have no stated maturity and are available on demand at the bank. Technically they are referred to as "non-interest bearing liabilities" because the bank pays no or very low rates of interest on them, so they are effectively free funds. The balance of these funds can increase or decrease throughout the day without any warning, although in practice the balance is quite stable.

There are a number of ways that a bank can choose to deal with these

balances, which are:

■ to group all outstanding balances into one maturity bucket at a future date that is the preferred time horizon of the bank, or a date beyond this. This would then exclude them from the gap profile. Although this