Hearing before the Committee on Economic and Monetary Affairs of the European Parliament

Introductory statement by Mario Draghi, Chair of the ESRB,
Brussels, 21 June 2016

Mr Chair,

Honourable Members of the Economic and Monetary Affairs Committee,

It is a pleasure to address you today in my capacity as Chair of the European Systemic Risk Board (ESRB).

Let me begin by mentioning that the General Board of the ESRB will meet this Thursday. I will be glad to report back on the outcome of our discussions during my next hearing. However, I would today like to highlight some of our priorities, in particular touching on areas where we hope to finalise work over the summer.

On the medium-term impact of the low level of interest rates from a macroprudential angle

When we met last time, I referred in the question and answer session to the ESRB’s ongoing work on the medium-term implications for the financial system of the low levels of interest rates. We are looking at this from a structural point of view to determine whether, and how, it will affect the business models of financial institutions – banks, insurance companies, pension funds, investment funds and market infrastructure. We are, of course, also investigating the interplay with cyclical factors, such as the levels of profitability and the need to ensure sustainable sources of funding. Our work focuses on: (i) the impact of the low level of interest rates on the economy and on the behaviour of economic actors, (ii) the impact on banks, insurers and financial markets, and (iii) the interplay between these sectors.

The financial stability risks related to low interest rates could materialise in different parts of the financial system. Therefore, we need to take a holistic view when designing policy responses. To this end, we are looking at three main groups of risks: (i) the sustainability of business models, (ii) broad-based risk-taking, and (iii) changes in the structure of the financial system. Policies to address systemic risks identified in the first two categories are aimed at increasing resilience, enhancing the monitoring of developments and ensuring an orderly exit of institutions whose business model proves to be unviable. As regards the third category, let me mention that changes in the market structure might alter the nature of the risks and hence it might be necessary to define macroprudential policies to address them. The ESRB General Board will continue to discuss these issues and validate the technical work this week.

Looking ahead – developing policy strategy beyond banking

I just mentioned that there is a need for a holistic view of the implications of the low interest rate environment. Speaking more broadly, we are convinced that a holistic view is needed as regards macroprudential policy as well. This takes me to another topic important to the ESRB, namely developing a strategy for macroprudential policy beyond the banking sector.

While macroprudential policy for the banking sector is already operational, the policy strategy, regulatory data and instruments for addressing risks beyond the banking sector need further enhancement. This is a task which will require a broad range of stakeholders in Europe to work together, including legislators, the ESRB, macro- and microprudential authorities and conduct regulators.

What is needed is an analytical and policy framework to target risks across the whole financial system with a consistent, albeit not necessarily uniform, set of instruments, including those for insurance, financial markets and market infrastructure. Moreover, macroprudential policy should pay closer attention to areas where systemic risk is higher. Therefore, the required level of resilience of specific parts of the financial system, such as investment funds, should be linked to their potential impact in terms of the systemic risk facing the financial system as a whole. There is also a need to take account of the excessive indebtedness of economic actors. Therefore, the risks at the level of end borrowers, independently of the type of credit (i.e. bank loans, non-bank loans or marketable debt securities) should be addressed. This may make it necessary to develop the framework for leverage requirements for investment funds and also to make use of the new sources of data available under existing legislation. Furthermore, we are proposing to develop a wider financial stability toolkit, including top-down stress tests for asset managers, central counterparties, insurers and pension funds as well as recovery and resolution frameworks for central counterparties and insurers.

The ESRB will soon be publishing a strategy paper on this, which we hope will become a reference point for future policymaking.

Liquidity – assessing risks to the investment fund and market-making sectors in Europe

Several policymakers, including the European Parliament, often raise the issue of whether systemic liquidity conditions have deteriorated and whether the new legislation has had unintended consequences. In other words, are there imbalances between the demand for and supply of liquidity which require a policy response? It is an important macroprudential issue as such imbalances could potentially amplify and/or transmit shocks through the financial system.

Against this background, the ESRB has been working on assessing risks to the investment fund and market-making sectors in Europe. This work benefits from our unique ability to gather data and conduct analysis across all EU Member States. In our data collection exercise, we have covered 274 EU asset management firms and 1,668 fixed-income investment funds. The first technical assessment based on our macro-stress calculations leads to the conclusion that 95% of the asset management firms and investment funds in our sample would be able to fully satisfy redemption claims in an “extreme but plausible” scenario. I say this fully aware that this work is still to be validated by the ESRB General Board this week. As regards the recent regulatory changes and their potential unintended impact on market liquidity, it is important to remember the intended aims of the new rules: stricter regulation means market-makers are better able to absorb losses under stressed market conditions, thereby increasing market resilience and reducing the risk of market disruptions in times of stress.

ESRB publications

I have updated you on our most important priorities. I would now like to say a few words on some of the material we have published since we last met.

With respect to our ongoing task of developing the macroprudential framework for the banking sector, we have recently established the framework for voluntary cross-border reciprocity of macroprudential measures. This framework has been already used in the case of Belgium and, most recently, Estonia. I already mentioned in this Committee our work on financial stability issues related to residential and commercial real estate. The relevant ESRB reports have now been published. They offer a unique set of data on structural differences. Moreover, we have published a review of macroprudential policy in the EU, which discusses the measures implemented across EU countries in 2015. We intend to make this a yearly publication. In addition, our stream of work on insurance has resulted in the publication of an ESRB report on systemic risks in the insurance sector. At the ESRB we are continuing our work on insurance because, contrary to what is often claimed, there are systemic aspects to insurance which need to be addressed. Finally, the Advisory Scientific Committee’s report published in February contributed significantly to the discussion on financial stability risks stemming from climate change. As you may recall, this report was triggered by questions posed to us by this Committee. Let me thank you for raising this issue and assure you that the ESRB will continue considering the financial stability risks stemming from climate change. Let me also assure you that your questions on financial stability issues related to the introduction of IFRS 9 will be addressed carefully by the ESRB. To this end, a new working group, chaired by Professor Javier Suarez, will meet this week for the first time.

Thank you very much for your attention. I am now available for questions.