Friday,21 June 2024

FSB’s Domanski: “Lessons are being drawn from the pandemic for financial stability”

5 min read

By Dietrich Domanski

In his keynote speech at Finance China 2021, Financial Stability Board (FSB) secretary general Dietrich Domanski highlighted the work being done to promote financial resilience and the importance of implementing post-crisis reforms in the wake of the extraordinary circumstances caused by COVID-19 around the world.

  • The global financial system has weathered the impacts of the pandemic due to its resilience and determined international response
  • FSB has developed a roadmap to address climate-related financial risks in relation to  assessment of data and financial vulnerabilities
  • There is a need for financial institutions to effectively manage operational and cyber risks with the accelerated move to digitalisation and adoption of new technologies

Here is the transcript:

I'm Dietrich Domanski, Secretary General of the Financial Stability Board (FSB). Thank you for inviting me to Finance China 2021. I'm sorry to be unable to attend in person, but I'm hopeful that we'll be able to travel more regularly and meet in person soon.

Vaccines are rolling out across the globe, even though at different pace across countries and regions. And while there are mounting signs of global recovery, some risks to financial stability still remain elevated. Economic uncertainty is high and negative surprises could test the liquidity of financial markets. Moreover, while borrowing served as an important lifeline during the pandemic, in some jurisdictions, solvency risks remain an issue amid higher corporate deadlands. And collectively, we face the challenge of managing the potential spillover effects from an uneven pace of recovery across regions. While remaining vigilant to emerging vulnerabilities, the FSB is beginning to draw lessons from the pandemic for financial stability. And today, I would like to share a few preliminary reflections on those lessons with you.

The COVID-19 pandemic is the first major test of the global financial system since the G20 regulatory reforms were put in place following the financial crisis of 2008. The global financial system has weathered the shock so far, thanks to two factors: a determined and bold international policy response and greater financial system resilience. The policy response to the pandemic was unprecedented. Authorities acted swiftly to sustain the supply of credit to the real economy, support financial intermediation and preserve global financial stability using fiscal, monetary and prudential policy levers. These combined actions were effective in easing financial strains and in ensuring the continued supply of financing to the real economy. Crucially, this policy response was supported by the stringent regulatory standards put in place by the G20 and coordinated through FSB following the 2008 financial crisis. Because of these reforms, the financial system entered the pandemic in a more resilient state than during the 2008 financial crisis. Large banks hold more capital, have more liquidity and are less leveraged. This allowed them to cushion, rather than amplify the macro economic shock. Financial markets infrastructures, particularly central counterparties functioned as intended. Taken together, one overarching lesson from the pandemic concerns the crucial importance of a resilient global financial system.

Let me elaborate on our areas of policy work that will be important to promote financial resilience going forward. First, it is important to complete the implementation of the remaining elements of the G20 reform agenda. Indeed, those parts of the global financial system where implementation of post-crisis reforms is most advanced, displayed the greatest resilience. The financial stability benefits of the full, timely and consistent implementation of the reforms, including with respect to Basel III, over-the counter derivatives or resolution frameworks remain as relevant as when they were initially agreed. It is also important to ensure that the reforms are working as intended. The evidence we’ve gathered thus far already suggests some specific elements of the regulatory framework that warrant further examination. These include the role and usability of capital and liquidity buffers, the performance of counter cyclical elements in prudential regulation, and potential remaining sources of excessive procyclicality whose impact may have been dampened or delayed as a result of official sector support.

Second, there is a need to strengthen resilience in the non-bank financial intermediation sector. In March 2020, key funding markets experienced acute stress. This highlighted vulnerabilities in particular activities and mechanisms in the sector stemming from liquidity mismatches, leverage and interconnectedness, which may have caused liquidity imbalances and propagated stress. In response, the FSB has developed a comprehensive work programme to enhance the resilience of the non-bank financial institutions (NBFI) sector while preserving its benefits. As a first deliverable under the NBFI work programme, we have developed policy proposals to enhance the resilience of the money market. These proposals are currently out for publication consultation. We will use this feedback to develop our financial proposals, which we will deliver to the G20 for approval. We have also worked underway on open-ended funds, margining, bond market structure and liquidity, and cross-border dollar funding, an issue of particular importance for many emerging markets. Once we have completed this work on individual risk drivers, we will focus on the broader issue of system-wide risks in NBFI and ways to address them.

Third, the pandemic experience has also reinforced the need to promote resilience amid rapid technological change in the economy and the global financial system. Financial institutions and financial market infrastructures moved to remove working environment last year without major reporting incidents. No major cyber incidents have been reported in the financial system, but the number of cyber-attacks has increased. More generally, working from home arrangements propelled the adoption of new technologies and accelerated digitalisation in financial services. While outsourcing to third-party providers such as cloud services seems to have enhanced operational resilience at financial institutions. Increased reliance on such services may give rise to new challenges and vulnerabilities. Effective management of such risk across the supply chain is essential in mitigating operational and cyber risk. This is an important part of the broader FSB agenda to address financial stability risks from digital innovation by harnessing its benefits, which includes initiatives of crypto assets and new entrants into the provision of financial services.

Last but certainly not least, we need to address the financial risks of climate change. Work in this area has gained considerable momentum in multiple forms. And given the global and cross sectoral nature of climate change, the FSB has a natural role to play in helping to coordinate, shape and seek agreement on the path forward in this space. To this end, the FSB has developed a roadmap for addressing climate-related financial risks. The roadmap, which was published at the start of this month, identifies where climate-related work on financial risk is on the way and what work is needed in four closely-related areas. First, firm level disclosures. Second, data needs for the assessment of climate-related financial risks. Third, the assessment of financial vulnerabilities for climate change.

Fourth, the development and application of regulatory and supervisory tools. The FSB’s focus is on addressing financial risks related to change rather than promoting green or sustainable finance. But the two areas are complementary. Financial resilience is a precondition for the stable provision of sustainable finance. And by the same token, sustainable finance based on sound risk management contributes to financial resilience.

Let me conclude, the FSB’s work since the beginning of the pandemic demonstrates the continued commitment of the international community to take the necessary steps to ensure the resilience of the financial system and support continued financing of the real economy under extraordinary circumstances. International cooperation will be critical as we navigate our way out of the COVID pandemic supporting resilient financial system and ensuring a strong sustainable, global recovery. Thank you very much and let me wish you a very productive year.

Keywords: Covid-19, G-20, 2008 Financial Crisis, Basel III, NBFI
Institutions: Financial Stability Board
Country: China
Region: East Asia
People : Dietrich Domanski
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