What sector is brewing the next financial crisis?
Ten years after the 2008 global financial crisis, it’s not a matter of whether there will be another financial calamity, but when and from what sector, a University of Toronto seminar was told.
Richard Sylla, a Professor Emeritus of Economics at New York University Stern School of Business, told a Rotman School of Management Forum in March that there have been a number of financial crises from 1772-2008 that primarily have affected the United States, the United Kingdom, Asia and Russia.
Each time one crisis passes, a new one brews, but few want to hear about it.
“In the build-up to a crisis … the Cassandras of the world – those who warned against it and financial historians like me – were shooed away and told: this time it’s different.”
Crises, however, shouldn’t be “wasted,” Sylla said. Some people do see a crisis evolving and act accordingly, making a lot of money off complacent investors.
He also said crises often lead to the creation of new technologies, usually aimed at ensuring the last catastrophe won’t happen again. But that doesn’t stop new threats from being created.
“New technologies will keep coming along that will get our speculative juices flowing; new financial technologies…will facilitate the creation of credit, and banks will have incentives to increase vulnerabilities.”
Some have speculated that cryptocurrencies will help bring about the next crisis. Sylla noted that bitcoin’s rise and fall is a symptom of a crisis, but added that bitcoins are small in terms of their impact on the economy.
Having said that, he pointed to Ben Bernanke, chairman said of the U.S. Federal Reserve during the last global financial crisis as saying that the sub-prime part of the mortgage market was a small thing and the mortgage market only part of the financial system. “So I would say: let’s keep an eye on bitcoins because it’s a sign that speculative juices are flowing.”
Julie Dickson, former superintendent in Canada’s Office of the Superintendent of Financial Institutions (OSFI), has been warning for some time about the possibility of financial issues stemming from the lack of day-to-day oversight by supervisors of financial institutions.
Despite that, Dickson, who held the top job at OSFI during the 2008 crisis, said not enough has been done to change this. She said questions remain as to whether new rules are adequate and whether they are timely.
“You cannot really have safe financial systems if the supervisors and the C Team are overseeing the A Team. You get what you pay for,” said Dickson. “Even after a global financial crisis, one would think there would be a little more recognition of the importance of well-staffed, supervisory resources. This is becoming more important over time as new products are developed.”
She said Canada is better off than many countries because OSFI has a lot of authority when it comes to supervision, typically meeting or exceeding international rules. But she warned there is no room for Canadians to be complacent.
Of particular concern to Dickson are financial technology companies involved in shadow banking – lending and other financial activities that do not follow regulatory rules and regulations.
“There’s a lot to watch in the shadow banking sector,” said Dickson. “These things are growing in leaps and bounds and it would be nice to have a little comfort around the risk management techniques they’re using …. Are they doing enough stress testing? What kind of impact do they have on the entire market?”
For his part, Brian Porter, president and CEO of Scotiabank, said he is more worried about the huge financial technology companies, especially following recent revelations about Facebook and how it has mishandled the privacy information of millions of its users.
“I’m more concerned about the threat of the big platforms like Amazon and Google and what they’re intentions are,” said Porter. “We’ve all seen … what’s happened with Facebook in terms of data, privacy and information. There’s going to be lessons to be learned by this for sure.”
He said fighting a cyber threat is a top priority for the industry and his bank in particular. Last December, Scotiabank announced partnerships with two Israeli technology companies to spur development of the bank’s technology capabilities and expertise in cyber security, partly in hopes of being able to act more quickly in case of a cyber threat.
Porter also said he disagreed with a warning from the International Monetary Fund (IMF) that Canada’s high debt levels and the pressure on Canadians to pay down their debt is making the economy more sensitive to weaker economic activity.
He said the IMF was only looking at one measurement, when it should really be looking at both sides of the balance sheet.
He added that Canada’s banks are now holding more capital as a safety buffer than they were during the 2008 financial crisis and can better weather a future economic storm.
Tamim Bayoumi, deputy director of the IMF, said his biggest concern about what could possibly spark another financial crisis stems from the small “frontier markets.” These countries, said Bayoumi, borrow in U.S. dollars and are therefore susceptible to U.S. interest rates and U.S. market swings.
Emerging markets are more difficult to predict because they borrow in local currencies and are insulated from what happens to the U.S. dollar. “So far it seems they’ve hedged themselves pretty well,” said Bayoumi.
Meanwhile a study by the CFA Institute indicates that investors are getting nervous about the potential of another global financial crisis.
According to the 2018 study, almost 40 per cent of retail investors globally fear another financial crisis within the next three years. The CFA says the expectation of a financial crisis increased in all markets surveyed except India and France. The biggest increases come from those in the U.S., the United Kingdom and Hong Kong, with younger investors more concerned than their older counterparts.
The survey says retail investors give the following reasons for the cause of a next potential crisis: national/global politics, a housing bubble/mortgage crisis, governments defaulting on debt and a major cyberattack or hacking.