by Olaf Sleijpen
Our world is currently threatened by increasing fragmentation, both political and economic. This makes it increasingly difficult to foresee all shocks, and so, it has brought new challenges to the community of macroprudential experts,’ concluded Olaf Sleijpen in his opening speech at the 8th Annual Macroprudential Conference, organised by the Bundesbank, the Sveriges Riksbank and De Nederlandsche Bank. I would like to share latest on a number of macroprudential topics, but also to talk about that one thing that’s on every central banker’s mind… money. Now, I don’t want to talk about some abstract notion of money today. No, I’d like to talk about a very particular coin. And that’s the Reichsthaler in German, the riksdaler in Swedish, and the rijksdaalder in Dutch.
Three names for one and the same coin? Exactly! And no, it is not just a translation. The original version of this coin is the German Reichsthaler. This coin saw the light of day back in 1566. And to be a true Reichsthaler, the coin needed to have a specific amount of silver and to be of a certain weight. Soon, this German coin inspired the Dutch and the Swedes to introduce their versions: with a different name, but essentially the same. All three of these ‘nations of merchants’ saw the benefits of an international currency for international trade.
Today, the Germans, the Swedes and the Dutch find themselves in a world that is far more integrated, both politically and economically, than the world of the 16th century. But at the same time, it’s a world that is increasingly threatened by geopolitical and geo-economic fragmentation. Let me turn from history to economics now – to how, in the end, this increased fragmentation has implications for all of us gathered here today – because it affects financial stability, and thus impacts the work of macroprudential policymakers. In economic terms, further geo-economic fragmentation could be seen as a negative supply shock. Think, for instance, about the increase in trade restrictions.
According to the IMF, the number of policy measures that restrict trade increased from a mere 300 in 2009 to over 2000 last year. A negative supply shock of this nature will lead to higher import prices, more market fragmentation, and reduced access to technology and knowledge. Cost estimates of trade restrictions vary widely, but we know that they are particularly high in the case of barriers to technology diffusion and disruptions in global value chains. As a result, economic growth will slow down, and higher trade costs will increase inflation. And inflation won’t just go up because of higher trade costs. It will also go up because of higher prices for raw materials – especially strategically important raw materials, like oil. Or nickel, copper and cobalt – important materials for the energy transition – and of which Russia has plenty. And all this will happen in a shock-like way: hard to predict beforehand, hard to manage after.
Consequences of fragmentation
And the consequences of fragmentation don’t stop there. It also affects the stability of the financial sector. And then you are in core macroprudential territory. Because financial institutions:
*will incur losses, for instance through companies defaulting on their loans;
*they will not be able to diversify geographically as much as they would like – with an eye to hedging geographical risks;
*and on top of that, global capital flows will decrease – which will increase lending costs for households, companies and governments.
Having said this, the most important way fragmentation might affect financial stability is by limiting cooperation. The international kind – within the IMF or the G20, for instance. The kind we need to tackle international challenges. Challenges that also affect the financial sector. Structural ones, like global warming and the energy transition, or sudden ones like a pandemic or – indeed – a financial crisis, like the Global Financial Crisis – which we dealt with successfully. Challenges that cross national borders and thus require cross-border cooperation.
And then we are not only talking about geo-economic fragmentation, but also about geo-political fragmentation, which is often a pre-existing condition. And just as geopolitical tensions can be a harbinger for geo-economic fragmentation, like trade barriers, they can be a harbinger for increased cyber threats. Indeed, also from state actors. And indeed, also targeted against financial institutions and critical financial infrastructure such as payment systems. As such, fragmentation comes knocking on central banks’ doors as the guardians of said payment system. Of course, cyberattacks on critical infrastructure outside the financial system, like the energy sector, are also increasing, and these will also have an impact on financial institutions and financial stability.
Being similar to economic shocks – potentially harmful and difficult to foresee – fragmentation also clearly affects our macroprudential tasks. Tasks that should be focused on building resilience. And so, first, I would urge financial institutions to do three things: create buffers, buffers, and more buffers. Preferably in that order. But, of course, not all threats related to geo-political fragmentation can be addressed with more buffers. We need to do more to prepare ourselves against major disruptions of the financial system. We need to safeguard what is often referred to as: business continuity. And this holds for financial institutions, central banks and supervisors; and preferably jointly, in a European context.
Turning back from economics to history:
In the 16th century, the century of the Reichsthaler, the riksdaler and the rijksdaalder, economic integration was still in its infancy – at least it was less institutionalised. And political integration was mainly done through war, imperialism or arranged marriages. Today, we have genuine economic and political integration. And this is a great good. Something that has brought us peace, democracy and prosperity. Something that we need to protect – also from geo-economic shocks. And so, to me, this means a European Union that protects its strategic interests and reduces unwanted dependencies, while, at the same time, strengthening its internal market. Because, at least partly, our internal market can protect us from the consequences of geo-economic fragmentation elsewhere in the world. But this doesn’t mean I am advocating for ‘fortress Europe’. On the contrary. The European Union should also do its utmost to uphold multilateral co-operation, which is in its own interest, and try to look for new partnerships, possibly in the Global South.
To me increasing resilience also means a European Union in which the implementation of macroprudential policy is harmonised – as much as possible – across national borders to create a level playing field for European financial institutions. And when it comes to cross-border banking, strengthen the so-called principle of reciprocity of macroprudential policies. Finally, to me, this also means a European Union that creates a European Capital Markets Union. Because this would help mobilise much-needed funding for the EU’s enormous climate and digital investment needs. This is how I look at the world we currently live in – one that is threatened by increasing fragmentation, both political and economic. One that makes it increasingly difficult to foresee all shocks. And so, one that has brought new challenges to this community of macroprudential experts.
The author, Olaf Sleijpen,is Director at the Dutch Central Bank.
