The Office of Financial Research (“OFR”) issued an update to its assessment of threats to financial stability. According to the update, overall risks to financial stability remain moderate.
The OFR’s latest assessment of vulnerabilities in the financial system was informed by updates to the OFR’s financial stability monitor and the monitor’s underlying data. Specifically, the monitor provided a high-level summary of five areas of risk: macroeconomics, markets, credit, funding and liquidity, and contagion. The update noted that the risks weren’t elevated significantly in any one of these five risk areas in comparison to their levels in the OFR’s last update six months ago. However, the update also noted that key risks within these main areas include elevated U.S. equity price valuations, low-risk premiums in U.S. government bonds, weakness in U.S. corporate credit fundamentals and fragile liquidity in some securities markets.
Overall, OFR Director Richard Berner cautioned, “the current moderate level of threats to financial stability should not be cause for complacency.” He added that “our analysis suggests the need to remain vigilant about emerging threats.”
Lofchie Comment: To a surprising extent, the identified risks are the direct result of government policies: e.g., very low interest rates resulting in high equity prices, and restrictive capital regulations, combined with regulations like the Volcker Rule, leading to a withdrawal of liquidity from the market. This is to say nothing of the risks of central clearing that have been acknowledged only recently. (See here: CFTC Chairman Bowen describing the risk of clearinghouse failure as unlikely, but potentially “devastating.”) OFR or, more importantly, FSOC should consider the extent to which government regulation, however well intentioned, is a material cause of risk.