European financial regulators warn that the economic recovery is likely to stall amid an array of growing risks accompanying the fallout from Russia’s invasion of Ukraine.
In their first joint risk assessment of the year, the three major European regulatory agencies — the European Securities and Markets Authority (ESMA), the European Banking Authority (EBA), and the European Insurance and Occupational Pensions Authority (EIOPA) — warned of increasing economic and financial risks, along with rising environmental and cyber risks.
“Russia’s invasion of Ukraine and its economic consequences have aggravated the outlook for growth and inflation and brought heightened market volatility,” the report said.
“Market resilience will critically depend on the ability of markets and financial institutions to deal with the economic consequences of the Russian invasion of Ukraine, and to withstand changes in public policy support on the monetary or fiscal side without material disruptions,” it added.
The regulators noted that existing risks, including inflation and the ongoing Covid-19 pandemic, are amplified by Russia’s invasion of Ukraine.
While the economy was enjoying a strong recovery, and the financial sector had proven resilient, “the recovery appears to have been hindered by new waves and variants of the virus, concerns regarding inflation risk, rising commodity prices and heightened geopolitical risks.”
Moreover, additional risks to the financial system have built up over time, it said.
“Financial markets remain vulnerable to changes in market sentiment, particularly if financial conditions tighten unexpectedly due to inflation pressures,” it said. “At the same time, the financial sector is increasingly exposed to environmental risks and risks stemming from digitalization.”
Given the build up of risks, the regulators called on the financial sector and local authorities to prepare for the possibility of greater fallout from the conflict in Ukraine, including a possible deterioration of asset quality, and sudden reversals of risk premiums, along with rising credit and liquidity risks.
“Retail investors are of particular concern,” the report said, adding that supervisors should monitor risks to retail investors.
Additionally, the report said that financial institutions need to further incorporate ESG considerations into their strategies and governance structures; and that they should prepare for a possible increase in cyber-attacks.