VADUZ – The Financial Market Authority (FMA) Liechtenstein has presented its report on the assessment of financial market stability. This concludes that the domestic financial sector remains stable and the systemic risks are limited. However, since the outlook for the global real economy and the financial markets has deteriorated significantly in recent months, the prospects for financial stability have also deteriorated significantly.

Since Liechtenstein does not have its own central bank, the FMA is responsible for the legal responsibility to contribute to national financial market stability. On Tuesday evening, the FMA presented its current Financial Stability Report as part of the Forum for Financial Market Stability. Prime Minister Daniel Risch was also present at the event. In his welcome address, he referred to the great importance that risks to financial stability are likely to be identified: “Especially in such uncertain times, it is important for Liechtenstein that we are also a stable, secure and reliable partner internationally.” The Vice President of the Governing Board of the Swiss National Bank (SNB), Martin Schlegel, was also a guest at the forum. He lectured on the subject of cash. This is still popular in the digital age, but is increasingly under pressure, according to Schlegel. A panel of experts then discussed the current situation in the real economy and on the financial markets as well as the most important findings of the Financial Stability Report 2022.

Gloomy prospects for the economy and financial stability

According to the FMA, the prospects for financial stability have improved in the face of a surge in inflation, rising interest rates and a slowdown in economic growth. Current developments could mark an abrupt end to the immediate downtrend in nominal and real interest rates. The tightening of financial conditions is not only associated with increasing risks in the financial markets, but also has a strong impact on non-financial corporations, households and financial intermediaries. “In the event of a global recession, the Liechtenstein economy would be significantly affected due to its high sensitivity to the business cycle,” said the FMA.

High level of debt with significant risk potential

According to the FMA, the well-known high level of indebtedness of private households continues to represent a systemic risk for the Liechtenstein financial sector. In the short term, however, the risks would be limited despite the abrupt rise in interest rates. In the medium to longer term, the vulnerability is said to be higher than in other countries, since private household debt in Liechtenstein is among the highest in Europe, which, however, is associated with increased risks in the event of persistently high interest rates.

Reputation essential for financial stability

According to the FMA, the stability of the financial sector depends to a large extent on international recognition and compliance with international standards. Even if Liechtenstein has a strong legal basis and a high degree of effectiveness in detecting and combating money laundering and terrorist financing, the reputational risks for the entire financial center are still significant. “The financial sector’s business model is largely based on trust and reputation,” according to the FMA. “Therefore, even isolated incidents can undermine these values ​​and, in the worst case, lead to contagion effects throughout the financial sector.”

Pension funds are suffering from developments on the financial markets

As the FMA goes on to write, the pension funds are affected by the immediate developments on the financial markets. “While the public pension scheme (1st pillar) is in a good position and can absorb it due to its high reserves in financial investments, the risks in company pension schemes (2nd pillar) have risen sharply,” as the FMA warns. The recent losses in both the equity and bond markets have led to a significant drop in coverage ratios. “Pension funds that have a coverage ratio of less than 100% will take action whenever repeated in an economically viable way,” according to the FMA. “Against this background, the downward trend in the conversion rates will continue in the coming years. If the coverage ratio is persistently undershot, further restructuring measures could be necessary.”

Digitization with risks

The risks of cyber attacks and digitization have become increasingly important in recent years. According to the FMA, even a single cyber incident could be enough to undermine trust in the entire financial system. “It does so by either crippling the finance-specific infrastructure or causing major financial losses.” Even if cyber incidents in Liechtenstein do not yet have any of the impact-type cases, the risks are considerable – not least against the background of increased geopolitical tensions. In addition, increasing digitization also harbors risks, as financial innovations intensify competition in certain areas of financial services. In general, however, the domestic financial sector appears to be well prepared for the challenges ahead, as stated in the report.

Climate risks are coming into focus

According to the FMA, the financial sector is also increasingly affected by climate change and the transition to a low-carbon economy. Physical and transition risks would therefore become increasingly important in assessing financial stability. “Although the climate-related disclosures of financial market participants have improved in recent years, data gaps and data inconsistencies still make it difficult to assess the climate-related risk situation,” it says. In recent years, both the FMA and the domestic financial sector have shown a strong commitment to making progress in the area of ​​sustainable finance and data availability. “Notwithstanding this, there is still a lot to be done to ensure that the financial sector is well prepared for the various climate-related challenges,” concludes the FMA.

The fifth edition of the Financial Stability Report (2022) can here be viewed.