The Financial Stability Board (FSB) published an interim report that identifies the lessons learned from a financial stability perspective during the COVID-19 pandemic. The report, which has been prepared in collaboration with certain standard-setting bodies, identifies aspects of the functioning of the G20 financial reforms that may warrant attention at the international level. It notes that the functioning of capital and liquidity buffers may warrant further consideration, while concerns about excessive financial system procyclicality remain. The final report, which is to be delivered to the G20 Summit in October 2021, will also set out next steps to address the identified issues.
The interim report notes that parts of the global financial system, where implementation of post-crisis reforms is most advanced, displayed resilience. The COVID-19 experience reinforces the importance of completing the remaining elements of the G20 reform agenda. Overall, the report discusses the following key issues:
- Need to strengthen resilience in the non-bank financial intermediation sector. FSB has developed a comprehensive work program to enhance resilience of the non-bank financial intermediation sector and emphasizes the importance of continuing international cooperation and coordination of policy responses to prevent regulatory arbitrage and market fragmentation
- Functioning of capital and liquidity buffers may warrant further consideration. Authorities released countercyclical capital buffers quickly and, while banks did not face large liquidity pressures overall, some banks took defensive actions to maintain their liquidity levels well above the regulatory minima.
- Concerns about excessive financial system procyclicality remain. The pandemic has highlighted issues relating to margin calls; the behavior of certain market participants; specific aspects of the use of external credit ratings; and the interaction between the new expected credit loss (ECL) accounting and regulatory frameworks. However, it may be too early to draw conclusions about the procyclicality of financial system and some of these issues need further examination as the support measures may have dampened or delayed their impact.
- Authorities should continue to take steps to further enhance crisis management preparedness. Authorities should continue exploring opportunities to enhance information-sharing and to continue to adapt supervisory and regulatory policies to the changing underlying circumstances, including by addressing identified data gaps and enhancing analytical tools. Efforts should continue to ensure credible liquidity and systemic crisis arrangements for times of stress and resolution.
- Identifying systemic vulnerabilities early on remains a priority. The current low level of corporate insolvencies seems predicated on continued policy support. Banks and non-bank lenders could still face additional losses as these measures are unwound. Recent bank stress tests suggest that the largest banks are well-capitalized and will remain resilient under a range of recovery scenarios. Yet there may be questions about how banks would maintain real economy financing in an environment of deteriorating non-financial sector credit quality, which makes it harder to discriminate viable projects. Asynchronous economic cycles and widening interest rate differentials could induce disorderly capital outflows from emerging markets as dollar denominated investments are suddenly reallocated across jurisdictions.
- Build-up of leverage and debt overhang in the non-financial sector. Addressing debt overhang, including by facilitating the market exit of unviable companies and by promoting the efficient reallocation of resources to viable firms,, may be a key task for policymakers going forward.
- Need to promote resilience amid rapid technological change in the economy and the global financial system. The boost that COVID-19 seems to have given to digital financial services, in particular various forms of digital payments, reinforces the need to ensure that regulatory frameworks and approaches provide a solid basis for harnessing the benefits of such innovation while containing their risks.
Keywords: International, Banking, Insurance, Securities, COVID-19, Systemic Risk, Credit Risk, NBFI, Financial Stability, Basel, Regulatory Capital, CCyB, Liquidity Risk, ECL, Loan-Loss Provisioning, FSB
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