SPEECH
SVERIGES RIKSBANK
DATE: 29/01/2018
SE-103 37 Stockholm
(Brunkebergstorg 11)
SPEAKER: First Deputy Governor Kerstin af Jochnick
LOCALITY: Sveriges riksbank, Stockholm
Tel +46 8 787 00 00
Fax +46 8 21 05 31
registratorn@riks bank.se
www.riksbank.s e
How the Riksbank contributes to
financial stability*
In Sweden we have a large financial system, which contributes positively to jobs
and growth. But it also entails risks, not only for financial companies, but also for
the entire Swedish economy. We have in modern times experienced two bank
crises, which the responsible authorities have succeeded in managing in a good
way, but which have in the long run lowered production levels and thus general
welfare in Sweden.
Discussing what central banks and other authorities do in the field of financial
stability is therefore important. Right now it is particularly interesting to discuss
what the Riksbank does, as the Riksbank Committee is in the process of reviewing
the Sveriges Riksbank Act. One of the areas the Committee is to analyse is
precisely the Riksbank's responsibility for financial stability, and it is good that this
is clarified. The current act says that the Riksbank shall "promote a safe and
efficient payments system". The concrete meaning of this text is not self-evident,
but the Riksbank has interpreted it as a task of promoting financial stability.
Today I therefore intend to talk about what tasks the Riksbank has that contribute
to promoting financial stability, and how the Riksbank works with them. I also
intend to talk about some of the development trends we see in these areas. They
entail challenges for the Riksbank, as for many other central banks, and need to
be taken into account when reviewing the Sveriges Riksbank Act.
But let me first look back in time a little and reflect on how the central bank tasks
have developed in recent decades and ask the more fundamental question of why
we actually have central banks.
___________________________ 1 [12]
would like to thank Christina Nordh-Berntsson and Anders Vredin for help with the text of this speech and for useful
*I
suggestions
The central bank tasks - developments in
recent decades
The central bank's responsibility for price stability, that is, to hold inflation low
and stable, was upgraded and clarified in Sweden, as in many other countries,
during the 1990s.1 The responsibility was formulated in new legislation, the
central banks also received independence in monetary policy and explicit
quantified inflation targets were drawn up. The central banks' responsibility for
financial stability following the deregulation of the financial markets in the 1980s
and 1990s, on the other hand, has not been clarified in the same way, although
there has been considerable progress in many areas in recent years.2
Although the legislation is not clear, not only in Sweden but also in many other
regions, there is no doubt that central banks have considerable responsibility for
the stability and efficiency of the financial system. Both fundamental economic
theory and the historical motives for creating central banks indicate this is so.
Central banking is about the provision of
liquidity
One of the most important tasks for a central bank is to ensure that the payment
system functions - that there is sufficient money, or means of payment or
"liquidity" more generally, so that trade in goods and services can function
smoothly. To enable the large volume of goods and services produced - and now
also financial products and services - to change owner smoothly, one must have
good access to a generally accepted means of payment. The supply of means of
payment today consists to a very small degree, and to a diminishing degree, of
banknotes and coins. Payments are instead made by transfers between the
parties' bank accounts or using payment or credit cards. But this does not change
the central bank's fundamental task - which is still to ensure that the supply of
liquidity functions. The central bank can be regarded as the banks' bank.
The Riksbank and other central banks fulfil this task in many different ways. Partly
by granting loans to banks during the day and partly be receiving deposits from or
giving loans to banks in the slightly longer term, for instance over one or more
weeks. It is the interest on the latter transactions that we now often connect with
the concept of monetary policy. A central bank can also give loans to individual
banks on special terms in temporary emergency situations, when it acts as lender
of last resort.
However, the stability of the financial system is not guaranteed only by the
measures taken by the central bank; other public authorities also have important
tasks here. It is in particular important that there are sufficient buffers to manage
disruptions and that confidence is good with regard to all participants in the
payment system. This is ensured by all of the participants being well-capitalised
and having good liquidity. It is also essential to ensure that financial companies
can be closed down without any major repercussions on the real economy.
Common to the central bank's different measures regarding efficiency and
stability in the payment system and the financial system is that they involve
ensuring that the supply of liquidity is functioning - that there is sufficient means
of payment and short-term credit for the economy to grow at a good pace
without severe fluctuations in interest rates or other disruptions.
One might wonder whether the financial system might not be able to function
entirely without central banks and other state intervention. Would not a large
private bank or other large and stable company be able to guarantee that there
were sufficient means of payment and credit in normal situations, and also to act
as lender of last resort in a crisis situation? Historical experiences show that it has
been difficult to create sufficient security in the payment and credit systems with
private central banks. One such example is that the state was forced to take over
Stockholms Banco when there was a bank run on it, which led to the
establishment of the Riksbank 350 years ago. But in those days there were no
other banks and the financial system was largely undeveloped. As the private
banking system grew, it was common at first that the private banks funded
3
themselves by issuing banknotes, in Sweden and in other countries. However,
during the 19th century the view emerged that this was not a sufficiently stable
financial system and central banks run by the state began to be established. They
were also given a monopoly on issuing banknotes and coins, which gained a
special status as legal tender. The fact that banknotes and coins now have less
significance as means of payment does not means that the need for a state
guarantor for the payment system has disappeared. I shall return to this shortly.
I shall now describe in more detail what the Riksbank does in more concrete
terms and how I view our responsibility for financial stability.
Promoting a stable and efficient financial
system - the Riksbank's role
The Riksbank has three core tasks that contribute to an efficient and stable
financial system: issuing banknotes and coins, responsibility for the system for
large-value payments and providing emergency liquidity assistance (being lender
of last resort). Moreover, there is a close link between monetary policy and
financial stability, which I will return to later. Let me discuss the different core
tasks one at a time.
Issuing banknotes and coins
One fundamental function that must work if a financial system is to be regarded
as stable is payments. And a first important central bank task to facilitate
payments is to issue banknotes and coins. History has shown that it is
socioeconomically efficient that the government authorities have a monopoly on
issuing cash, as this then becomes a risk-free asset that can be used both as an
arithmetical unit and for saving and for making transactions. Almost all countries
now have central banks that issue banknotes and coins.
In Sweden, we are now facing a historical milestone with regard to cash. The use
of banknotes and coins has declined at a very rapid pace in recent years and the
general public are increasingly using digital means of payment instead. However,
there still remains a fundamental requirement for a safe instrument that can be
used as an arithmetical unit and to make payments and as a store of value. A
critical issue, in light of this development, is what the role of the state should be
on the payment market. This is an important issue to society that contains many
dimensions, including consumer issues, financial stability perspectives,
contingency planning and competition aspects. The Riksbank is therefore
investigating whether we should issue a digital krona, or e-krona, so that there
will continue to be a means of payment issued by the Riksbank. In addition, the
position of cash in the economy and the Riksbank's responsibility for the handling
of cash need to be investigated further and specified.
Responsibility for RIX - the Riksbank's system for
largevalue payments
The Riksbank can already be said to issue digital money, but this can only be held
by banks and some other financial institutions. This electronic central bank money
plays an important role and, like cash, is risk-free. It is used to implement
payments between financial institutions participating in the central bank's
payment system. In Sweden, this payment system is called RIX and it is operated
by the Riksbank. Responsibility for a central payment system is a second central
bank task that is of great significance for ensuring that our payments are efficient
and safe, and thereby for the financial system.
Most non-cash payments in Sweden that are not internal within a bank pass
through RIX one way or another. On average, around 21,000 payments are settled
in RIX every day to a total value of around SEK 565 billion4. In other words, every
week an amount is settled that is roughly the size of Sweden's GDP. RIX also acts
as the hub in a large universe of systemically important financial infrastructures
that consists of central counterparties, securities companies and clearing
organisations. The Riksbank's role is to supply the RIX system and to guarantee
that the parties that are members of RIX can settle their payments efficiently. The
requirements for operational reliability for the RIX system are very high, as a
breakdown would have major repercussions on society. If payments do not reach
counterparties as planned, this could entail problems for the companies and
households that are affected.
RIX thus plays a very central role in the Swedish economy, as it is the economy's
"circulatory system" through which the Riksbank acts when supplying liquidity to
promote financial stability and also when conducting monetary policy.
As a result of the increasing internationalisation, the rapid technological
developments and the emergence of new regulations, RIX, like the central
payment systems in many other countries, is currently facing strong pressure to
change. One effect of these developments is that an increasing number of credit
institutions and some other institutions want to be able to participate directly in
the payment system, instead of through agents. With more participants in the RIX
system, the concentration risks will decline, as there will be more institutions that
have the possibility to borrow directly from the Riksbank, which is positive. But a
larger number of institutions, and new types of institutions, becoming participants
in RIX could also lead to the risks of other problems increasing, such as
operational problems, money laundering, financial problems and cyber threats. It
is therefore important that the Riksbank regularly oversees the participants in RIX
and has the power of authority to make strong demands of them. Thus it is
essential that the Sveriges Riksbank Act provides sufficient flexibility in this
respect.
Function as Lender of last resort - emergency liquidity
assistance
A third important part of the central banks' responsibility for the efficiency and
stability of the financial system is the task of providing emergency liquidity
assistance. One usually says that the central banks are the lender of last resort.
The need to have a "liquidity emergency service" is based on normal banks'
operations being characterised by borrowing money at short maturities and then
lending this money at longer maturities. This is the so-called maturity
transformation that exposes the banks to liquidity risk.
Sometimes the banks' access to funding may suddenly decline, without it being
possible - or socio-economically desirable - for them to reduce their lending at
the same pace. This does not usually lead to any problems. A bank that needs
more funding can normally borrow from other banks that have a surplus (or it can
issue its own bonds). However, sometimes the liquidity problems are so serious
that the banks cannot manage them on their own.
If, for instance, confidence in a bank were weakened so that depositors feared
they would not be able to get their money back, the bank might be subjected to a
bank run that it is unable to manage on its own. There is also a risk that problems
in one bank may spread to other banks, as the banks are interconnected. Even
banks that do not have any problems may be affected as a result of rumours
spreading. If the banks also obtain a large share of their financing on the markets
- as the Swedish banks do - then a crisis of confidence in an individual bank or the
entire banking sector, or the economy as a whole, could also lead to the funding
being withdrawn, especially if the foreign share of the funding was substantial.
This could also lead to acute liquidity problems for one or more banks.
In other words, in a crisis, liquid funds are often in short supply. The financial
markets that offer funding often function less well than usual and the declining
confidence between the market participants means that the liquidity that is still
available in the financial system is not redistributed in the same way as under
more normal circumstances.
So why have the central banks been given this liquidity supporting role? The
simple reason is that they - through their right to create money - have unlimited
opportunities to provide liquidity in the national currency. This opportunity is
essential when managing a financial crisis.
As the banks' operations have become increasingly internationalised and their
need for international securities markets has increased, however, the need to also
offer liquidity assistance in other currencies has increased. But the Riksbank, like
other central banks, has limited possibility to lend foreign currency. Here the
central banks - for natural reasons - do not have any possibility to create
liquidity. The foreign currency reserve at the central bank's disposal thus becomes
an important tool with regard to meeting the banks' needs for liquidity in foreign
currency in a crisis. This applies in particular in a small economy with a small
currency, like Sweden's.
As liquidity problems are normally the first symptoms of a crisis, it is generally also
the central banks that first take action in a crisis. They often have several ways of
quickly adding liquidity. These include liquidity assistance to individual institutions,
so-called emergency liquidity assistance, or to the financial system as a whole.
A concrete example of when this type of measure was needed was the financial
crisis 2008-2009, when it was difficult for the banks to obtain access to liquidity
on the markets. Many central banks were then forced to supply liquidity to a great
extent so that the financial system would not suffer any shocks. The Riksbank lent
USD to the equivalent of around SEK 250 billion.5 In addition, the state in the form
of the Swedish National Debt Office provided guarantees corresponding at most
to around SEK 350 billion.6 This was all done for the purpose of safeguarding the
liquidity supply in the financial system so that households and companies would
not suffer disruptions.
I have now talked about three core tasks that central banks have to contribute to
creating an efficient and stable financial system - issuing banknotes and coins,
responsibility for a central payment system and acting as liquidity provider in a
crisis. Let me also say a few words about how we work to be able to carry out
these tasks in a good way.
Regular analysis of the stability of the financial sector
and good crisis preparedness
To be able to fulfil our liquidity supporting role in a crisis, we must have good
knowledge of the financial system and its participants. We therefore analyse
financial companies, infrastructures and markets, as well as the links between
them, both under normal circumstances and in times of crisis. In the initial stage
of a crisis - when the Riksbank needs to make a decision on liquidity support of
several billion in the course of a day or so, or in the worst case a few hours - it is
not possible to start analysing the bank that is in distress and what links it may
have to other participants in the financial system. Being a slow starter does not
work, as the course of a crisis can be very rapid. A regular analysis of banks and
other financial companies even during normal circumstances is needed also to
ensure that the institutions that are members of RIX have good risk management,
so that they are stable and do not subject the system to major risks. To be able to
carry out this regular analysis in a good way, the Riksbank cooperates with
Finansinspektionen, which in its capacity as financial supervisory authority has
good access to information and in-depth knowledge of the individual financial
companies.
In addition to the regular analyses, we at the Riksbank need to practice our crisis
management capacity in various ways. We do this regularly, together with other
public authorities in Sweden and in other countries. In other words, crisis
preparedness is high on our agenda, as it is for other central banks. It is quite clear
that Sweden, with a large bank and payment system, could be destabilised
through the payment system. In addition, to our own exercises and preparedness,
it is also important that we have the possibility to require that the participants in
the payment system have a high level of crisis preparedness. I hope that the
Riksbank will be given greater power of authority in this field.7
Monetary policy is closely related to financial
stability
Now I have talked at length about the concrete tasks the Riksbank has to
contribute to a stable and efficient financial system. But how does monetary
policy, which is what my colleagues and I most often talk about, relate to financial
stability? There are several links, both operational and analytical ones.
Essential that the Riksbank can use its tools flexibly in a
crisis
Let me begin with the operational work - that is, the tools that we at the Riksbank
have at our disposal. They are mainly aimed at affecting the volume of liquidity in
the financial system. The tools are used both to implement monetary policy and
to contribute to a smoothly-functioning payment system and to manage liquidity
shortages in an individual institution or in the financial system as a whole. In the
current Sveriges Riksbank Act, the different tools are categorised according to
different purposes, such as monetary policy (which applies to most of them) and
liquidity supporting tools, primarily emergency liquidity assistance. A clear lesson
from the financial crisis, however, is that measures taken in a crisis situation often
contribute both to promoting financial stability and to the impact of monetary
policy, which makes it difficult to distinguish these purposes.
The Riksbank - like a large number of other central banks - implemented a
number of different measures during the crisis. We supplied liquidity, for instance,
by offering loans in SEK at longer maturities than usual, by increasing access to
credit, which involved among other things accepting other forms of collateral than
previously and extending the circle of financial institutions allowed to borrow
from the Riksbank, as well as offering loans in other currencies than SEK.
The measures that got the financial markets to function in the acute situation
then prevailing also affected the monetary policy transmission mechanism from
the repo rate to the interest rates paid by households and companies. By
maintaining a smoothly functioning payment system and an efficient credit
market, the Riksbank thus contributed to both general financial stability and to
the narrower monetary policy targets of price stability and stable resource
utilisation. In other words, it is seldom meaningful - particularly in a crisis or in
times of financial unrest - to make a distinction between measures taken for
reasons of financial stability and measures taken to improve the impact of
monetary policy.
The Sveriges Riksbank Act is narrow with regard to the areas of use for different
tools, but the preliminary works to the act make it possible to extend the areas of
use in a crisis. This meant that the Riksbank could take the necessary measures in
the crisis. However, it would be desirable for the actual text of the law in future to
provide the Riksbank with a broad and clear task of promoting financial stability
and flexibility to take the necessary measures in a crisis. As no two crises are the
same, and experiences show that different crisis situations require different
measures, I am doubtful about linking the tools available to the Riksbank to
specific purposes.
Another aspect speaking in favour of flexibility in the use of the various tools is
the fact that there is a lot of work under way in the central banking world to
develop new liquidity instruments. These often have a monetary policy purpose,
but several central banks are now also developing tools that have a clearer link to
financial stability. One example is the Bank of England, which has created new
liquidity instruments that are proactively aimed at affecting financial institutions'
risk-taking. These instruments can be described as a cross between typical
standing facilities for monetary policy and crisis facilities. The development of new
types of liquidity instrument will probably make it even more difficult in the future
to draw boundaries between monetary policy measures and measures to
promote financial stability, as well as between crisis tools and tools for normal
conditions. It thus illustrates the importance of the Sveriges Riksbank Act giving
the Riksbank sufficient flexibility to be able to change the Swedish liquidity
framework on the basis of Swedish needs, both with regard to monetary policy
targets and financial stability aspects.
Regular analysis of financial stability necessary for
monetary policy decisions
Let me now move on to the link between monetary policy and financial stability in
the analytical work. The close relationship applies here too.
As I have just described, the Riksbank needs - to fulfil its liquidity supporting role
in crisis and to safeguard the stability of the RIX system - to analyse the
participants, infrastructures and markets in the financial system, as well as the
links within the system, also under normal circumstances. This type of analysis is
also needed for our monetary policy decisions, both under normal circumstances
and in a crisis. A financial crisis or unrest in the financial system means, as I
mentioned earlier, that we will find it more difficult to affect the economy
through monetary policy, as the transmission mechanism changes. Changes in the
repo rate then do not affect the interest rates that households and companies
meet in the same way as under more normal circumstances, which we of course
must take into account in our monetary policy decisions.
The dependency goes both ways. The monetary policy conducted can affect the
risk of a financial crisis, and we must also take this into account. For example, the
repo rate influences housing prices, credit granting and general financial
risktaking in the economy. To create an adequate basis for making the monetary
policy decisions, the Riksbank needs to analyse these effects. One recent example
is the question of how the market for government bonds is affected by the
Riksbank buying a large percentage of the outstanding stock. The Riksbank's
purchases have meant that a relatively large share of the government bonds have
not been available for trading in the market. The Riksbank therefore analyses
regularly whether this might affect market functioning and ultimately financial
stability.
We can thus draw the conclusion that the Riksbank's work on promoting financial
stability has close links to monetary policy, both in operational and analytical
terms. Financial stability is a prerequisite for a smoothly-functioning monetary
policy, at the same time as monetary policy can impact the risk of a financial crisis.
Sometimes monetary policy, micro- and macroprudential policy measures are
interchangeable.8
Broad discussions on systemic risk issues are
valuable
To summarise, we can observe that the Riksbank is responsible for a number of
areas that are central to the financial system - cash supply, the RIX system,
supplying liquidity in a crisis and monetary policy. The Riksbank regularly analyses
the risks that could threaten the stability of the financial system to be able to
manage these tasks. We therefore consider that it is also our task to contribute to
the general debate in society by means of these analyses.
We communicate our views in different ways, both within and outside of
Sweden's borders. For instance, we have for 20 years now been publishing our
assessments in Financial Stability Reports. We also regularly report our analysis of
systemic risks in the Financial Stability Council and hearings of the Riksdag
Committee on Finance. The Riksbank also takes part in a number of international
committees and working groups where financial stability questions are discussed.
However, there is no clear reflection of the Riksbank's responsibility in the
systemic risk field in the current Sveriges Riksbank Act, although this could
certainly be included in the task of "promoting a safe and efficient payment
system". It would be desirable for this to be explained when the Riksbank's
responsibility for financial stability is clarified in a new Sveriges Riksbank Act.
As I mentioned earlier, however, the Riksbank is not the only authority that has a
task that is central to financial stability. Both Finansinspektionen (the Swedish
Financial Supervisory Authority) and the Swedish National Debt Office also have
such tasks. They also conduct financial stability analysis based on their respective
areas of responsibility. This necessarily means that there will be some overlapping
of the authorities' analyses and communication of systemic risks. I do not see this
as a problem, as different authorities have somewhat different points of
departure, purposes and comparative advantages in the work. On the contrary, it
is valuable to receive different perspectives in this work, as it has historically been
very difficult to identify systemic risks and to counteract them in time. Moreover,
the costs of a financial crisis are, as we know, extremely high, which means we
should do all we can to reduce these risks. Of course, we will never be able to
prevent future crises entirely, but having different angles of approach in the
analytical work increases the probability that we can detect systemic risks in
time. However, it is important that there are also good forms for discussion,
cooperation and consultation between the authorities and the Financial Stability
Council is one useful forum for this.
The Riksbank's voice on liquidity issues
should carry particular weight
For the Riksbank, with its central role in providing liquidity to society, the
management of liquidity among participants in the financial system is particularly
important. The first sign of a financial crisis - regardless of whether it concerns an
individual institution or the financial system as a whole - is namely often a
shortage of liquidity. By acting as lender of last resort and using its balance sheet,
the Riksbank is therefore usually the public authority that first takes action in a
financial crisis. In the same way as the fire brigade tries to work on prevention by
reducing the risk of fires, it is reasonable that the Riksbank should in various ways
contribute to reducing the risks of a financial crisis. It is therefore natural that the
Riksbank should analyse and comment on regulations that affect the probability
of Sweden suffering a financial crisis, and also the cost of the crisis if it should
come to that. My view is that the Riksbank's voice should carry particular weight
with regard to liquidity issues, given our central role in supplying liquidity. There
are many different ways of formalising this. For instance, Finansinspektionen
could have a stronger obligation to consult the Riksbank on issues that concern
liquidity regulation and supervision or the Riksbank could be expected to give
recommendations in this field.
International cooperation important to
promote financial stability
Finally, I would like to take up the international perspective, which has gradually
increased in significance over the years. As the financial sector becomes
increasingly cross border, the international cooperation on financial stability
issues, and in particular financial regulations and systemic risk, has strengthened.
In general, the central banks' cooperation in this field is very extensive. For
instance, most central banks have significant responsibilities in the systemic risk
field, not least within the EU.
The Riksbank currently participates in around 80 committees and working groups
that focus on issues regarding the efficiency and stability of the financial system.
This gives us both the possibility to influence questions with a bearing on financial
stability, and to learn from how other central banks conduct their analysis of
financial stability and how they manage payment system issues, cash and the role
of lender of last resort.
In some cases the Riksbank takes part in forums that are purely for central banks
(such as the BIS and the ECB), and in other contexts we participate alongside
other Swedish authorities. In the forums that are solely for central banks, other
authorities are not able to replace the Riksbank, even if the Riksbank did not have
a mandate in the areas discussed. When the Riksbank's responsibility for financial
stability is formulated, it is therefore important to do so in a way that ensures that
Swedish interests in affecting and receiving relevant information in the
international cooperation, for instance regarding systemic risks and financial
regulation, can be taken into account in a good way.
Important to have a broad task and flexibility
in the use of instruments
What I want to illustrate with my speech today is that the Riksbank's tasks on the
whole concern contributing to the smooth functioning of the financial system, by
safeguarding the supply of liquidity in various ways. In addition to the
responsibility for supplying cash, we are the banks' bank both under normal
circumstances and in crisis situations. We give credit to the banks during the day,
we use our balance sheet to influence access to liquidity and market rates, and we
can enter in as lender of last resort in an emergency situation. The Riksbank, like
all other central banks, thus has an important responsibility for financial stability
and this is also closely linked to monetary policy.
But while the monetary policy task is clearly stipulated in the law, the
responsibility for financial stability is not so clear. This responsibility is also shared
with other authorities. It is good that there is now an inquiry that will clarify the
Riksbank's responsibility for financial stability in an amended Sveriges Riksbank
Act.
It is important that the Riksbank's task of promoting financial stability is then
given a broad wording. For instance, it would be useful to clarify that the Riksbank
is expected to contribute to discussions on risks which may threaten the stability
of the financial system. Given its central role in the supply of liquidity, not least
the role as lender of last resort, it would be natural for the Riksbank's voice on
liquidity issues to carry special weight. It is also essential to take into account the
internat