High debt levels, shaky real estate markets and lurking leverage pose continued risks to global financial markets, warns the Financial Stability Board (FSB).
In a letter to the G20, which will be meeting on Thursday and Friday, the global policy group highlighted an array of threats to global financial stability and called for further action to address weaknesses in the oversight of shadow banking.
Among other things, the FSB noted that both private and government debt levels are still elevated and could come under pressure if economic growth falters, or if interest rates stay higher for longer than expected.
In particular, “real estate market vulnerabilities bear close monitoring,” the group said.
At the same time, there are pockets of excessive leverage in the shadow banking sector that represent a potential source of systemic risk, the FSB warned.
“Combined with rich asset valuations in some markets, these vulnerabilities raise the potential for sharp price corrections in the event of a shock,” it said, adding that shocks may be more likely in the current, uncertain geopolitical environment.
While some progress has been made on addressing the vulnerabilities posed by the shadow banking sector, the FSB said the pace of these reforms has been uneven and may be losing steam, “leaving the global financial system susceptible to further shocks.”
To address these risks, the group called on G20 policymakers to finalize reforms — such as measures to address liquidity risk and enhance the resilience of financial institutions — and to fully implement these reforms.
Additionally, shadow banking firms have dramatically grown their off-balance sheet exposures over the past decade, boosting leverage, the FSB noted.
“An ambitious policy approach is necessary to mitigate the financial stability risks associated with leverage,” the group said. The FSB is planning to launch a policy consultation on this by the end of the year.
Dealing with a lack of available data on these exposures is also a key challenge for regulators, the FSB noted, adding that it’s working to address these issues in an effort to enhance the monitoring and regulation of the shadow banking sector.
The FSB also highlighted the risk to financial stability in emerging markets posed by global stablecoins that are pegged to foreign currencies.
While some of the inherent risks posed by stablecoins were revealed by the crypto market turmoil that arose in 2022, which saw certain major stablecoins lose their pegs and collapse, the FSB noted that some emerging market economies “may be exposed to additional risks and challenges associated with global stablecoin activities.”
These challenges include added complications to monetary policy and capital flows in these countries.
In a separate report, the FSB examined these issues and called on policymakers to implement its recommendations for global stablecoins that were issued last year.