The recent sharp price corrections have fuelled uncertainty in various financial markets. The increasing nervousness follows on a period of exceptionally low market stress and can therefore be partly interpreted as a correction of this situation. The repercussions of the economic slowdown in China are also playing a role. As yet, there has not been contagion to the broader financial system. Financial institutions must, however, be prepared for increasing unrest in the financial markets. An interest rate hike by the Fed and a rekindling of the European debt crisis may induce sharp price corrections in the financial markets, and in turn create risks to financial stability. These developments are detailed in DNB's Overview of Financial Stability (OFS).
Despite the fact that central banks have created exceptionally accommodative monetary conditions, the ability to trade securities (market liquidity) has deteriorated in some financial markets. This exacerbates volatility in these markets and increases the likelihood of contagion effects. Financial institutions should therefore take reduced market liquidity into account, for instance by running liquidity stress tests and taking measures to mitigate funding risks. If financial institutions are not sufficiently prepared for situations where market liquidity suddenly dries up for longer periods of time, this may induce significant losses and funding risks and impact financial stability.
Banks have reduced their vulnerability to losses since the asset quality reviews of commercial real estate. On average, prices in the office and retail real estate markets are stabilising, but vigilance remains necessary. First of all, the average price trend masks large regional differences. In addition, the structural outlook for these markets remains unfavourable. The decreasing occupancy rate per office worker and rising online shopping are putting pressure on demand for office and retail space. Both the diverging price trends and structural market trends may cause new risks to financial stability.
DNB's Overview of Financial Stability emphasises that the preferential treatment of government bonds in prudential supervision must be phased out. The current rules assume that government debt is risk-free, while the European debt crisis has proved this assumption incorrect. The preferential treatment of government debt has increased the interconnectedness between governments and banks, and has undermined market discipline for governments. When phasing out preferential treatment a transition phase is desirable in order to prevent sharp shocks to the financial system.
This risk map provides a schematic overview of the key risks to financial stability. The size of the circle reflects the magnitude of the risk.
For more information, please contact Ben Feiertag on+31 20 524 2304, or +31 6 524 96 142.
Overview of Financial Stability in the Netherlands - autumn 2015
OFS Autumn 2015 Dataset (Dutch only)
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