Macklem highlights systemic risks from non-bank financial players
Tiff Macklem, Governor of the Bank of Canada and Chair of the FSB SCAV, highlighted systemic vulnerabilities in the financial system from non-bank financial intermediaries. Speaking at the Global Risk Institute, he focused on leveraged trading by hedge funds and the rapid growth of private credit.
Hedge funds and the sovereign debt backbone
Hedge funds have become central to sovereign debt markets globally, acting as very large buyers and supporting liquidity.
Their participation is often highly leveraged, funded largely through very short-term repurchase agreements (repo markets) with low or even negative haircuts.
This high leverage, while improving market efficiency through basis trades, makes the system sensitive to disruption.
Macklem cited examples like the 'dash for cash' at the pandemic's start, the 2022 UK gilt crisis, and US Treasury market stress, where forced unwinding of positions led to severe dislocations.
He emphasized the need for robust funding arrangements, better data on leverage and funding structures, and strengthened market infrastructure.
Major jurisdictions are responding: the US SEC mandates central clearing for most Treasury-collateralized repo by June 2027, and the Bank of Canada plans to use and centrally clear its own repo operations via a new domestic tri-party solution by early next year.
The opaque growth of private credit
Private credit, encompassing direct lending by institutional investors and investment funds, has grown rapidly to trillions globally, filling financing gaps for companies not well served by traditional banks or public markets.
Its behavior under stress, however, is largely untested due to a lack of historical data.
The market's opacity, with positions not regularly marked to market and limited liquidity, makes assessing underwriting standards and embedded leverage difficult.
This poses risks of severe strains and spillovers to public credit markets and the regulated banking sector, exacerbated by cross-border interconnections.
Macklem stressed the need for enhanced surveillance, better visibility into leverage and liquidity, and global coordination to monitor evolving risks.
Timely warning on hidden financial fault lines
Macklem's speech provides a crucial, timely warning about the evolving landscape of financial risks, moving beyond traditional banking to non-bank entities.
While acknowledging the benefits of these new players, he effectively highlights the systemic vulnerabilities that demand urgent attention from regulators and the private sector.
The emphasis on data gaps and international coordination underscores the proactive, forward-looking approach needed to prevent future crises.