FRBNY Assesses Potential Impact of Cyberattacks on Payment Systems

The Federal Reserve Bank of New York (“FRBNY”) analyzed the potential impact of a cyberattack transmitted through a payment system against a (i) single large bank, (ii) group of smaller banks and (iii) common service provider.

In a report entitled “Cyber Risk and U.S. Financial System: A Pre-Mortem Analysis,” the FRBNY warned that an attack on a bank’s ability to send payments “would likely be amplified to affect the liquidity of many other banks in the system.” According to the FRBNY, the U.S. financial system would be impaired by such an attack on (i) any one of the five most active U.S. banks, (ii) several small to midsize banks that are associated through a shared vulnerability or (iii) a bank with a small number of total assets but a heavy payment flow.

Additionally, the FRBNY:

– compared cyber risk against the “broader theoretical literature on bank runs,” such as cyber and other shocks modeled in the theoretical literature;

– investigated the quantitative impact that a cyberattack can have on the financial system by studying the impairments of a cyberattack on a set of banks’ payment activities in Fedwire Funds Service;

– conducted a baseline scenario to highlight the high concentration of payments between large institutions within the wholesale payment network, and the great imbalance in liquidity that follows if a large institution does not remit payments to its counterparties; and

– considered scenarios involving multiple institutions that would be directly affected due to technological or other commonalities.

LOFCHIE COMMENTARY

Presumably, the bad guys know how to do this anyways, and the issues raised will focus the good guys on the risks.

FINRA Identifies 2020 Risk Monitoring and Examination Priorities

In its Risk Monitoring and Examination Priorities Letter (the “2020 Letter”), FINRA identified several areas of focus for 2020, including:

– Sales Practice and Supervision. FINRA will assess firms’ compliance with Regulation Best Interest (“Reg. BI”) and Form CRS. In addition, FINRA will focus on (i) communications to retail investors regarding private placements, (ii) use of different electronic communication channels (e.g., texting and social media), (iii) cash management and bank sweep programs, (iv) sales of IPO shares and (v) trading authorizations.

– Market Integrity. FINRA will monitor firms for compliance with current Order Audit Trail System (“OATS”) requirements, and implementation of Consolidated Audit Trail (“CAT”) reporting requirements. In addition, FINRA will address firms’ compliance with (i) direct market access requirements under Exchange Act Rule 15c3-5, (ii) best execution requirements under FINRA Rule 5310, and (iii) the requirements of Rule 603 (the “Vendor Display Rule”) and Rule 606 (“Disclosure of order routing information”) of Regulation NMS.

– Financial Management. FINRA will focus on (i) clearance and custody of digital asset transactions, (ii) liquidity management, (iii) compliance with net capital requirements in connection with underwriting commitments and (iv) the steps firms are taking to transition away from LIBOR.

– Firm Operations. FINRA will focus on (i) cybersecurity, (ii) technology governance programs and (iii) supervisory controls relating to customer confirmation and AML requirements.

Lofchie Commentary

Several of the financial management areas of focus are as to issues where there is not actually a rule in place; e.g., liquidity management and transition from LIBOR. That does not make them any less significant. Firms may want to consider how they institute operational procedures to deal with regulatory expectations where there is not a specific rule that drives the firm’s conduct.

WSJ: Positive Revival of Agency that Aids Exporters (Exim)

The Wall Street Journal reports this morning on the reauthorization of the Export-Import Bank of the United States (EXIM) for seven years.

– The move represents a positive step forward to enhance economic growth, financial stability, and national security.

– Exim’s educational opportunities and finance unleash meaningful network effects. Once small and medium sized companies overcome obstacles to exporting, new markets open.

– Conservative critics are justifiably worried about heavy-handed “industrial policy.” Yet, Exim activities fall far short of a well-intention public sector misallocating resources.

Congratulations to Chairman Kimberly Reed and Exim for the hard work and reforms needed to safeguard US financial and strategic interests!

CFS Monetary Measures for November 2019

Today we release CFS monetary and financial measures for November 2019. CFS Divisia M4, which is the broadest and most important measure of money, grew by 7.4% in November 2019 on a year-over-year basis versus 6.6% in October.

For Monetary and Financial Data Release Report:
http://www.centerforfinancialstability.org/amfm/Divisia_Nov19.pdf

For more information about the CFS Divisia indices and the data in Excel:
http://www.centerforfinancialstability.org/amfm_data.php

Bloomberg terminal users can access our monetary and financial statistics by any of the four options:

1) {ALLX DIVM }
2) {ECST T DIVMM4IY}
3) {ECST} –> ‘Monetary Sector’ –> ‘Money Supply’ –> Change Source in top right to ‘Center for Financial Stability’
4) {ECST S US MONEY SUPPLY} –> From source list on left, select ‘Center for Financial Stability’

SEC Commissioner Hester Peirce Questions Current Data Collection Practices

SEC Commissioner Hester M. Peirce questioned the agency’s current data collection process and analysis.

In a speech before the National Economists Club, Ms. Peirce expressed concern that regulators’ data collection requirements are too far-reaching. According to Ms. Peirce, regulators are increasingly expanding data requirements without adequately considering (i) the underlying costs to regulators, market participants and investors, (ii) the usefulness of the information, and (iii) the potential cybersecurity risks. She:

  • questioned whether the information collected by Form PF is useful enough to outweigh the burden of compliance on hedge funds and other private funds; and
  • expressed concern that the Consolidated Audit Trail (or “CAT”) – which will collect data from broker-dealers across the county – is costly and a significant cybersecurity liability.

Ms. Peirce urged the SEC to invite academics and market participants to analyze the data collected, raise questions and suggest regulatory solutions. She stated that oftentimes market participants are better at “identifying problems and generating solutions” than the regulators. To encourage independent assistance, Ms. Peirce advised the SEC to make it easier for market participants to access the available data.

Ms. Peirce also addressed recent feedback calling on regulators to foster “sustainable finance,” (a/k/a “building a financial system that fosters a better, more sustainable society”). She stated that such a system should be formed by the free market, and should not be “dictated by a few powerful financial regulators.”

LOFCHIE COMMENTARY

In a world where every website is under potential attack from hostile nation states and from criminal organizations, why would one take the risk of gathering so much financial information in one place? The U.S. government has been successfully hacked; very sophisticated data companies have been successfully hacked; large financial institutions have been successfully hacked. There appears no obvious justification for accumulating so much financial information in a single location, as there can be no assurance that it can be kept safe for all time. Put another way, if the regulators cannot attest that, even if the site is hacked, the benefit of collecting and aggregating the financial information will nonetheless outweigh the harm, then it seems imprudent to proceed.

Form PF, as previously described, is “fundamentally useless.” See, e.g.SEC Requests Comments on Form PF. Anyone with knowledge of the relevant subject areas can look at the questions and see that they will not generate meaningful data; it’s not even necessary to look at the responses to see that the entire data collection effort has been a 99% waste.

Issing: Memorandum on the ECB’s Monetary Policy

We thank Otmar Issing for sending a recent “Memorandum on the ECB’s Monetary Policy” in response to CFS distributions. To be sure, the broad content of the message was covered in the financial press. However, meaningful nuances and details are only apparent with a full read. Hence, it may be of interest to CFS friends.

Signed by:
Hervé Hannoun, Former First Deputy Governor, Banque de France, Paris
Otmar Issing, Former Member of the ECB-Executive Board, Würzburg
Klaus Liebscher, Former Governor Oesterreichische Nationalbank, Vienna
Helmut Schlesinger, Former President Deutsche Bundesbank, Oberursel
Jürgen Stark, Former Member of the ECB-Executive Board, Frankfurt
Nout Wellink, Former Governor De Nederlandsche Bank, Amsterdam

Judgement shared by:
Jacques de Larosière, Former Governor Banque de France, Paris
Christian Noyer, Former Governor Banque deFrance, Paris

The full memorandum is available at
www.CenterforFinancialStability.org/research/Memorand.pdf

Wishing you the best into the Holiday Season and New Year!

Hormats and Istel on Inequality and Low Rates

CFS is delighted to share Robert Hormats and Yves-Andre Istel’s personal views on “Inequality Perils from Lower Rates.” They contend that:

  • Low interest rate policies have become increasingly ineffective in fostering equitable growth.
  • Negative effects of ultra‐low rates have been underestimated and are greater than generally thought, especially in increasing inequality.
  • Therefore, a new mix of monetary/fiscal policies with a long-term structural focus is called for.

Yves and Bob have been thoughtful and engaged with CFS. Robert Hormats is the former Undersecretary of State for Economic Growth, Energy, and the Environment. Yves‐Andre Istel is a Senior Advisor to Rothschild & Co.

The full report is available at
www.CenterforFinancialStability.org/research/Hormats_Istel_121619.pdf

From China / Monetary Policy Paradigm Shifts

I had the pleasure of presenting “Monetary Policy Paradigm Shifts” as well as delivering conference summary remarks at a discussion hosted by the Shanghai Development Research Foundation (SDRF). The conference hosts beautifully structured the inquiry regarding monetary policy across three areas. Corresponding conclusions follow:

– “Modern Monetary Theory (MMT)” is neither modern nor monetary. It is theory. CFS has avoided discussing this topic; however, threads seem to be drifting into mainstream thinking. MMT has already been tried and performed poorly. Our assessment rests on studies and empirical evidence including Gail Makinen’s “Studies in Hyperinflation & Stabilization” published by CFS in 2014.

– “Fundamental changes in theory and policy today” are a function of three policy miscalculations since 2002. Monetary mistakes in the past have paved the way for more experiments and the surfacing of ideas such as MMT.

– “The effect on global markets and economies” is to skew incentives for savers and investors, distort market signals, and limit growth.

Although tricky, a slow and careful restoration of normalcy is essential. It is today’s critical constrained maximization problem.

View the remarks at www.centerforfinancialstability.org/research/ShanghaiDRF_111819.pdf

de Larosière on the Monetary Policy Challenge

We are delighted to share Jacques de Larosière’s latest thinking on “The Monetary Policy Challenge.” Jacques thoughtfully evaluates the 2% inflation target so prevalent in advanced economy central banks today. His assessment is based on careful examination of structural determinants of inflation as well as distortions arising from equilibrium inflation consistently falling short of its target.

He chronicles unintended consequences from excessively accommodative monetary policy – which stretch from a weakening of the banking system, deterioration of pension institutions to the proliferation of zombie companies.

“Who could reasonably believe that lowering already so low rates would strengthen growth?”

He notes that it “is not too late to act” and offers concrete solutions.

The full report is available at www.CenterforFinancialStability.org/research/de_Larosiere_MPC_112519.pdf

Jacques de Larosière is the Chairman of the Strategic Committee of the French Treasury and Advisor to BNP Paribas. He previously served as the President of the European Bank for Reconstruction and Development (EBRD), Governor of the Banque de France, and Managing Director of the International Monetary Fund (IMF).

CFS Monetary Measures for October 2019

Today we release CFS monetary and financial measures for October 2019. CFS Divisia M4, which is the broadest and most important measure of money, grew by 6.6% in October 2019 on a year-over-year basis versus 5.9% in September.

For Monetary and Financial Data Release Report:
http://www.centerforfinancialstability.org/amfm/Divisia_Oct19.pdf

For more information about the CFS Divisia indices and the data in Excel:
http://www.centerforfinancialstability.org/amfm_data.php

Bloomberg terminal users can access our monetary and financial statistics by any of the four options:

1) {ALLX DIVM }
2) {ECST T DIVMM4IY}
3) {ECST} –> ‘Monetary Sector’ –> ‘Money Supply’ –> Change Source in top right to ‘Center for Financial Stability’
4) {ECST S US MONEY SUPPLY} –> From source list on left, select ‘Center for Financial Stability’