This report, which was delivered to G20 Leaders ahead of their November Summit, provides a holistic review of the March market turmoil. The breadth and dynamics of the economic shock and related liquidity stress in March were unprecedented. The shock caused a fundamental repricing of risk and a heightened demand for safe assets. The stress also led to large and persistent imbalances in the demand for, and supply of, liquidity.

Particular activities and mechanisms in the financial system acted as mitigants or propagators of the liquidity stress. Central counterparties remained resilient despite market turbulence, though margin calls may have been larger than expected in some cases. Some investors in open-ended investment funds may have faced incentives to redeem ahead of others. While stronger bank capital and liquidity positions, built over the past decade as a result of the post-crisis reforms, helped to prevent a sharp rise in counterparty risks, banks may have been unwilling or unable to deploy substantial balance sheet capacity in an uncertain and volatile environment. Dealers also faced difficulties absorbing large sales of assets, amplifying turmoil in short-term funding markets. Market dysfunction was exacerbated by the substantial sales of US Treasuries by some leveraged non-bank investors and foreign holders. Absent central bank intervention, it is highly likely that the stress in the financial system would have worsened significantly.

The March turmoil underscores the need to strengthen the resilience of non-bank financial intermediation (NBFI). The review sets out an NBFI work programme, focusing on three main areas: work to examine and address specific risk factors and markets that contributed to amplification of the shock; enhancing understanding of systemic risks in NBFI and the financial system as a whole, including interactions between banks and non-banks and cross-border spill-overs; and assessing policies to address systemic risks in NBFI.

This letter from the FSB Chair, Randal K. Quarles, to G20 Leaders ahead of their November Summit, notes that while financial conditions have continued to ease the global economic outlook remains uncertain and financial stability risks elevated. The letter sets out three responses to financial stability vulnerabilities highlighted by COVID-19: 

• Coming to a shared diagnosis – the letter notes that the market turmoil in March manifested itself differently in countries around the world. Emerging market economies experienced severe strains in offshore US dollar funding markets; whereas some advanced economies experienced significant outflows from certain types of investments. The FSB’s holistic review assesses the initial stages of the COVID-19 Event as having exposed a number of common strengths and vulnerabilities across the global financial system.

• The need for continued vigilance and policy support – the challenges posed by the COVID Event have by no means dissipated yet. Persistent economic uncertainty and still elevated financial stability risks call for continued vigilance. The FSB continues to carefully monitor for signs of emerging vulnerabilities. The protracted nature of the COVID Event requires continued efforts to support financial resilience and ensure a sustained flow of financing to the real economy.

• Enhancing financial sector resilience going forward – the COVID-19 Event has provided an opportunity to further assess financial stability risks and to refine measures put in place after the 2008 global financial crisis, where appropriate. These lessons can help strengthen financial sector resilience to better prepare for future shocks.

This report, which was delivered to G20 Leaders ahead of their November Summit, considers the financial stability impact and policy responses to the COVID-19 event.

Global financial conditions have overall continued to ease since the G20 meeting in July on the back of the decisive policy action taken earlier this year. However, risks to global financial stability remain elevated. Financial conditions may remain vulnerable to sharp shifts in investor sentiment. Deteriorating credit quality of non-financial borrowers poses risks to the financial sector. The intensification of the pandemic, together with the resulting necessary government containment measures as well as greater uncertainty about its duration, is increasing vulnerabilities in the non-financial sector.

These vulnerabilities may increasingly affect banks and the supply of financing to the real economy more generally. Bank capital ratios have held up so far and have allowed banks to continue lending. However, if banks face rising loan losses and a worsening in asset quality, they may be tempted to tighten credit conditions. In addition, further credit ratings downgrades could put bond markets under pressure. There is a risk that a deterioration in corporate sector health could lead to more downgrades.

The evolving nature of the COVID-19 pandemic and the associated economic uncertainties require continued efforts to support financial resilience and ensure a sustained flow of financing to the real economy. It is critical to address potential obstacles to the use of bank capital and liquidity buffers to absorb losses and support lending, while avoiding harmful deleveraging. The use of analytical tools such as stress testing is important to inform the assessment of potential solvency risks on financial stability and adjustments in policy responses. Authorities’ communication of their expectations of future policy, at a time when conditions are changing fast and the outlook is uncertain, is important to support confidence.

The FSB COVID-19 Principles have continued to guide national responses to COVID-19. Coordination of the measures taken by jurisdictions has discouraged unilateral actions that could distort the level playing and lead to market fragmentation.