Saudi Arabia has always been cognizant of risks inherent in the leveraged and leniently regulated model. A sustainable model is one which supports resiliency of the financial system in a crisis. In particular, the crisis made clear that regulators need to have a macroprudential framework for the system as a whole, as well as focusing on the microprudential risk management of each individual bank. 6. Regulatory challenges  Recent efforts by the G20 and other global entities (Basel Committee, FSB, G20 & IMF) in addressing system pitfalls and weaknesses show the seriousness of the problem as well as the need for remedial action. It is well-known that crises are a recurring phenomenon, warranting appropriate countermeasures to contain systemic risks of the scale seen in 2007/2008. Some big challenges in reforming the world’s financial system still remain, however. Allow me to say a few words on this point. In the past two years or so, the G20 has issued calls for coordinating financial regulations and their reforms across multiple issues, such as capital and liquidity requirements, derivative instruments, and orderly resolution of failing banks. However, the G20 process is facing increasing resistance within some member countries on these measures for reasons of domestic politics and practicality of the proposed reforms in some G20 economies. For example, it is agreed that a sound macroprudential framework needs to be in place. The regulators will be expected to decide when the pace of credit expansion is unhealthy. Similarly, SIFI’s definition has proven to be contentious.
Finally, emerging/developing economies have been subject to wide swings in financing from abrupt withdrawal of funds in 2008 to significant inflows recently, and as a result they are starting to implement capital controls. The risk is that these may spread unless financial flows become less erratic and more long-term and stable. 7. Concern about commodity bubble and high-yielding products  Over the past several decades, the world financial system has produced a seemingly endless series of bubbles (e.g. the dotcom bubble, the housing bubble and the Yen carry trade). Each bubble had its apologists before it burst, who argued that it was rational and that “this time is different.” Historically, commodities (apart from oil) were in a downward trend for over 100 years until 2002. Since then the entire decline has been reversed and commentators are talking about a “Paradigm Shift.” Compared to historical trends, commodities are as over-priced as the US stock market during the “tech bubble” of 2000. The parabolic rise in commodity prices has serious consequences and it is open to question whether the world economy is strong enough to support their continued gains. It is particularly damaging to inflation and growth in emerging market economies which are relatively heavy users of commodities. With interest rates at current low levels, investors are looking for high-yield products; but high yield brings high risks as well.