Instability is the new norm, and banks must learn to weather it

Global financial markets stumbled into 2019, having endured their worst December since 1931.

Both the Dow Jones and the S&P 500 indices fell by nearly nine per cent over the Christmas month. For the financial sector, this has refocused attention on the worsening political and economic backdrop for 2019.

Politically, instability is becoming the new norm. Whereas European and US financial institutions could once rely on relative political and regulatory certainties in their domestic markets, these are fading.

International institutions – which brought the financial system back from the brink of collapse following the crisis – are now under increasing threat from protectionist and nationalist sentiments.

This new political narrative casts the free market not as a liberator, but increasingly as a threat against which governments must protect their citizens. Anything that crosses borders – migrant workers, digital services, capital – is treated with suspicion.

Assumptions that underpinned the growth of global capital markets and multinational corporations are being openly challenged. Maintaining a licence to operate global banking businesses has become more difficult against this backdrop.

Economically, the world faces headwinds in the year ahead. The US, China, and the Eurozone – the world’s largest economies – have all experienced slowing growth in the latest quarter. The IMF forecasts that growth across developed markets will plateau in 2019, but fears are growing in the markets of a much worse outturn.

The global economy is not ready for a slowdown. With interest rates at or near historic lows across major developed markets, the scope for monetary stimulus is limited – and policymakers cannot readily turn to Treasury coffers to pick up the slack. The UK is no exception, and with added uncertainties around the Brexit endgame.

Banks naturally are highly exposed to domestic markets. In the UK and across the rest of Europe, businesses and households are struggling to drive the kind of growth necessary to overcome increasing regulatory costs or to address the slump witnessed in shareholder returns since 2008.

Leading UK and European banks continue to trade below their book value. With the return on equity in the UK and on the continent anticipated to be in single digits, banks’ business models must adapt in order to unlock new potential.

Many more will be turning to technology for help in 2019. The business case for embracing technologies such as artificial intelligence and the cloud are clear: enhanced decision-making, on-demand scalability at speed, and safer and cheaper financial intermediation frameworks.

Digital transformation enables banks to deploy capital, data and talent more effectively. But such transformations will involve massive investments and, by their nature, bring with them huge risks and uncertainty as banks carve out new contours.

Heightened concern over system failures, cyber attacks, and third-party risks challenge the operational resilience of both financial institutions and financial systems. The business transformation playing out must be matched by a significant maturing in the understanding and management of new and emerging risks.

At the same time, greater regulatory coordination and standardisation globally around the use of data and digital technology are also key to sustaining and safeguarding innovation in the banking industry and beyond, but that sits uncomfortably with the current political climate.

Banks need to fully understand how the confluence of shifting politics, economics and technology will shape future legislation and regulation, as well as impact their digital transformation strategies, operating models and risk management frameworks.

Business certainty is a commodity in short supply. The onus is on business leaders to strike the right balance between coping and growing in 2019.