The Australian Prudential Regulation Authority (APRA) has released guidelines on how it wants the Basel III liquidity reforms implemented.

The reforms will apply to both general and life insurers as well as health insurance providers and will come into effect on January 1 2013.

Under the reforms, insurers will have to document the organisation’s liquidity risk tolerance and it must be reviewed annually to ensure the entity’s financial condition.

Insurers will have to maintain a cushion of unencumbered, high-quality liquid assets to deal with any stress events.

Looking after the risk management strategy, management must be operationally independent and have the necessary skills to understand their role.

APRA also says the risk management team must have the authority to challenge an insurer’s treasury and profit-making businesses.

Ultimate responsibility for maintaining the risk management strategy will rest with an insurer’s board and they will be setting the liquidity risk tolerance of the organisation.

The funding strategy for maintaining liquid assets and a contingency plan must also be created by the insurer’s board.

APRA Chairman John Laker says Basel III reforms address a number of weaknesses in liquidity risk management that came to light during the global financial crisis.

“APRA’s objective is to strengthen the resilience of authorised deposit-taking institutions to liquidity risk and improve our ability to assess and monitor liquidity risk profiles,” he said.

“These reforms build upon APRA’s 2009 proposals for a stronger liquidity management regime in our banking system.”

The regulator has released a discussion paper outlining its requirements for the implementation of Basel III and the draft prudential standard on liquidity in financial institutions.

Comments must be sent to APRA on both documents by February 17 and the regulator is proposing to publish the final standard by the middle of next year.

Insurers will then be expected to implement the requirements of the new liquidity standards when they are formally published.