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How to Maintain Financial Stability Amidst the COVID-19 Pandemic

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When considering how to maintain financial stability during the COVID-19 pandemic, most households would benefit from establishing a savings account. Contributing to it is a prudent decision to make while still earning an income. Do not max out your credit cards or max out your income when the situation is not as dire. Also, avoid stocking up on hand sanitizer or buying a one-year supply of hand sanitizer. CDC guidelines provide some helpful tips for establishing a financial emergency fund. The Ari Betof Podcast has a lot more in store for you.

Issues with phasing out of support measures

The COVID-19 Pandemic has been compared to the economic scene of World War II. It has ravaged global health systems and impacted human lives. It has even prompted the World Health Organization to declare it a global emergency. But there are several challenges to this approach. First, policymakers must decide when to phase out support measures. Withdrawing the guarantees too early could cause a credit crunch – when collateral values fall below the cost of rolling over debt, there is a risk of a wave of defaults. Furthermore, keeping guarantees too long can create a moral hazard effect, encouraging financial institutions to lend to overindebted and non-viable firms.

The effects of the COVID-19 pandemic on the financial system will be profound. Initially, the primary stressor will be the social distancing caused by the fear of COVID-19 infections. However, once the acute phase has passed, the economic effects may begin to emerge. Some parents may have lost their jobs and businesses, while others might have been burdened by accumulated work and increased workload.

Issues with capital requirements

Banks and financial institutions are facing unique challenges due to the novel coronavirus pandemic. This pandemic has affected global supply chains, and many physical locations have closed. While the full extent of this impact is still unknown, the cash flow crunch is threatening financial stability across all groups. Banks may need to adjust their existing liquidity stress models to account for significant drawdowns.

In the short term, weaker global demand and subdued consumption will crimp firms’ ability to pass on cost increases to consumers. Companies in sectors recovering from the earlier impact of COVID will be hit hardest. Furthermore, weaker corporate creditworthiness will spill over into other sectors. Banks’ borrower profiles will deteriorate as a result of weaker economic conditions. The external challenges may also intensify regional governments’ fiscal burdens.

Financial Stability

Issues with provisioning requirements

The Government of Uganda, for example, is particularly concerned about the impact of COVID-19 on the country’s economy. The Bank of Uganda has issued guidelines to support businesses and SFIs in the time of the crisis. The guidelines are designed to help banks build up greater provisions during extraordinary times. However, they are not foolproof and many supervisors are concerned about the risks associated with their implementation.

Moreover, the Bank of Finland cooperated actively with other authorities responsible for the financial stability of the nation’s economy. These agencies were tasked with helping banks mitigate the adverse economic impact of the COVID-19 pandemic, as well as maintaining the basis for a rapid economic recovery once the crisis has subsided. The Bank of Finland and other financial authorities of many European countries responded to the situation by easing capital buffer requirements. In turn, the measures taken by the banks freed up bank capital to provide credit and absorb losses.

Impact on NPLs

The European banking sector is likely to face a massive wave of non-performing loans as a result of the COVID-19 pandemic. Moreover, the COVID-19 pandemic has already been causing a slowdown in the economy, and high levels of non-performing loans could further worsen the situation. The European Bank for Reconstruction and Development (EBRD), as part of the Vienna Initiative, publishes a half-yearly report that tracks the state of non-performing loans. The IMF and EIB also prepare separate reports on the issue.

Despite these negative effects, the LA6 banks entered the COVID-19 pandemic in a fairly healthy state. Their capital and profitability were comparable to those during the GFC, and they are expected to achieve similar returns post-COVID-19. Nevertheless, their provisions have started to increase, reflecting the increased risk of borrowers defaulting. This is likely to make them less willing to accept a higher loan default rate.