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Financial stability

Financial stability

Context

Although there is no consensus on a single definition, financial stability can be defined as a condition in which the financial system – which comprises financial intermediaries, markets and market infrastructures – is capable of withstanding shocks and the unravelling of financial imbalance without giving way to cumulative processes, which impair the allocation of savings to investment opportunities and the processing of payments in the economy.

Currently, the European banking sector remains resilient, supported by sufficient liquidity. However, slowing economic activity and asset quality deterioration could weigh on bank performance going forward. Moreover, markets anticipate a broad-based resurgence of inflation in the coming years, as reflected in the global increase in interest rates by several tens of basis points. This, combined with a backdrop of elevated indebtedness and ever-increasing public and private debt, is setting us on a path toward a major economic disruption.

Over the past decade, non-bank financial intermediaries (NBFI) and private assets have become a central pillar of financing in advanced economies, reflecting both structural changes in financial intermediation and the cumulative effects of post-crisis bank regulation, prolonged low interest rates and rising long-term investment needs. For instance, the private credit market has grown from $300 billion in 2010 to $2 trillion today. The key players include investment funds, insurers and hedge funds. Whilst this diversification supports access to financing and compliments banking activities, they introduce new vulnerabilities.

The rapid growth of NBFI and private markets raises important and evolving financial stability challenges. Authorities broadly agree on the main sources of vulnerability, including:
leverage in certain segments of non-bank finance,

    • – liquidity mismatches, particularly in open-ended or semi-liquid fund structures,
    • – interconnectedness between banks, NBFI and market infrastructures.

Private credit institutions are currently facing mounting pressure. The growing involvement of retail investors in semi-liquid products may further heighten redemption risks and amplify market dynamics during periods of stress.

Additionally, emerging risks such as cyber threats, geopolitical fragmentation and climate-related exposures are gaining importance in the stability assessments of the financial system as a whole.

Eurofi documents

Extracted from the main Eurofi publications (Regulatory Updates, Views Magazines and Conference Summaries)

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