Fed vice chair nominee outlines three areas of potential concern for financial stability

Effective liquidity and interest rate risk management, potential speed of deposit flows, and weakness in some sectors of commercial real estate were three areas of potential concern outlined by the nominee for vice chair of the Federal Reserve Board in a speech Wednesday.

Phillip Jefferson, a member of the Fed Board who has been nominated to be the second chair at the agency by President Joe Biden (D), told the 22nd Annual International Conference on Policy Challenges for the Financial Sector in Washington, D.C., that the three areas he outlined are the focus of the Fed’s supervisory and regulatory work.

He also indicated that the Fed, and other federal financial regulators, are nearing a proposal on Basel III reforms.

Regarding liquidity, Jefferson said recent stresses in the banking sector (punctuated by three failures of large, regional banks) “highlighted the importance of effective liquidity and interest rate risk management, including both reliance on uninsured deposits and exposure to duration risk in asset holdings.”

“While the resilience of the financial sector will limit the spillovers from recent events, I expect those strains to lead to a further tightening in credit supply from banks that will weigh on economic activity,” he said.

On speed of deposit flows, Jefferson said it is important to assess how changes in the financial sector, including expanded use of online banking and shifts in behavior that may be driven by access to social media, may altering the potential speed of those flows.

Finally, on commercial real estate, the Fed governor said the weakness in some sectors of commercial real estate will affect the credit quality of those types of commercial real estate loans and “thereby place strains on lenders with high concentrations of those loans.”

Further, Jefferson asserted, changes in work preferences and the increase in remote work is leading to a reassessment of the outlook for office and associated retail properties, “and it will take time for the extent of that weakness to become clearer.”

Regarding Basel III, Jefferson said staffs of the federal banking agencies are working on an endgame proposal to be issued for public comment soon. At the same time, he said, Fed staff is considering ways to enhance the ability of stress tests to capture a wider range of risks and identify vulnerabilities at the largest banking organizations.

Gov. Philip N. Jefferson: Financial Stability and the U.S. Economy