Non-Traditional Risk Sources and Financial System Resilience

Abstract

This paper identifies 20 non-traditional risk sources that may test the resilience of the financial system in the longer term.Non-traditional risk sources refer to societal, technological, geopolitical and environmental factors that may undermine the resilience of the global financial system. In essence, financial system resilience can be defined as the capacity to continuously perform the primary functions, in particular supporting the real economy and enhancing societal well-being.Examples of these non-traditional risk sources include:- Societal factors, e.g. rapid ageing of populations may undermine the financial sustainability of retirement provisioning schemes which will challenge societal well-being. Pension schemes are key sources of capital within the global financial system.- Technological factors, e.g. data security issues and the risk of identity theft may undermine the trust of in the – largely electronic – financial system.- Environmental factors, e.g. severe carbon constraints may lead to stranded assets for oil companies and other industries that are highly dependent on fossil fuels. This will negatively affect the assets of institutional investors with large exposures in those sectors.- Geopolitical factors, e.g. major political and military conflicts, or lack of supranational regulation, may also challenge the resilience of the financial system.Many of these factors can be considered as “non-traditional risk sources” as most financial institutions and financial supervisors take these factors less into account in their conventional risk management processes. Admittedly, what is non-traditional for some sectors may be quite common for others. For example, analysing the risks of floods (climate change) or the outbreak of a virus may be relatively new for banks, but is standard practice in the casualty insurance industry.This report aims to broaden the perspective of risk managers, investors, supervisors and regulators of financial markets on where “the next financial crisis” may come from. Clearly, additional research is needed. For example, prioritising these risk sources (e.g. likelihood, impact, complexity) and defining risk mitigation mechanisms at organisational and system-wide level.The publication has been developed in close collaboration with the Executive Fellow community at Duisenberg school of finance (DSF). Executive Fellows are leading financial services executives, professionals and policymakers who are actively involved in DSF research and dialogue activities.