IRRBB

IRRBB stands for Interest Rate Risk in the Banking Book. It refers to the risk that a bank’s earnings or the economic value of its banking book will be affected by changes in interest rates. The banking book includes assets, liabilities, and off-balance sheet items that are not actively traded, and whose cash flows are exposed to changes in interest rates.

The risk arises from several sources. Mismatches in the timing of rate re-pricing between assets and liabilities, as well as shifts in the yield curve, can alter net interest income and the valuation of non-traded assets and liabilities. Basis risk occurs when different reference rates move differently, and option risk arises from features embedded in loans, deposits, or securities that allow the borrower or the bank to alter cash flows. Optionalities, prepayments, and deposit withdrawals can amplify sensitivity to rate moves, especially under stressed scenarios.

Measurement typically focuses on two core metrics: net interest income (NII) over a forecast horizon, usually one year, and the economic value of equity (EVE), reflecting the discounted value of future cash flows. Banks use scenario analysis and stress testing to capture non-parallel shifts and changes in the yield curve, as well as model-based projections under various rate environments. Measurement can involve standardized approaches or internal models, subject to validation and governance requirements.

Governance and risk management practices include setting risk appetite and limits, conducting regular reporting to senior management and the board, and implementing hedging, balance sheet optimization, and product design strategies. The topic is guided by Basel Committee principles and national supervisory frameworks that address the management and supervision of IRRBB.