Geopolitical tensions, inflation and the tightening of financial conditions have raised the threats to the stability of the European financial system and have focused on credit risk and liquidity risk for investment funds and other financial institutions.
This is highlighted by the report of the European Systemic Risk Board (ESRB) published this Tuesday under the title EU Non-bank Financial Intermediation Risk Monitor 2023. The document analyzes the systemic risks and the problems of investment funds and other financial institutions and In addition, in this eighth edition, it extends the analysis to crypto assets and their intermediaries, mainly cryptocurrencies, stable coins, decentralized financial platforms and decentralized financial protocols.
These intermediaries provide financial intermediation and may be exposed to the same problems and risks as the traditional financial sector. “The risks to financial stability increased in 2022, due to increased geopolitical tensions, higher-than-expected inflation, and a tightening of financial conditions,” the ESRB report notes.
“The economic slowdown and the tightening of financial conditions could increase credit risk. This is particularly relevant for investment funds exposed to bonds and loans with low credit ratings, financial vehicle companies involved in securitization and financial companies involved in lending. “adds the supervisor.
If credit risks materialize, they could trigger losses that in the case of mutual funds would result in large capital outflows and liquidity problems.
Market liquidity risk could put more pressure on non-bank financial intermediaries engaged in liquidity transformation. Some indicators show that in 2022, liquidity conditions in the European Union bond markets deteriorated.
The excessive use of leverage (investing through debt) could “amplify liquidity and market risks, produce contagion and magnify the impact on financial stability.” This also affects crypto asset brokers because they use leverage and use collateral like the traditional non-bank financial sector.
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