It is difficult to predict how the global financial system will shape up post-Covid-19, particularly as it is a new type of crisis relating primarily to human health. 

But strong clues are emerging, with most not boding well for globalisation. 

Meanwhile, sovereign debt is soaring everywhere as governments temporarily try to fund the hibernation of more than a third of their economies during population lockdowns while tax revenues plunge. All this spells danger for sovereign creditworthiness.

A likely rocky recovery will follow due to damage to the structure of the economy, despite the massive fiscal and monetary support. This will tempt governments towards quick nationalistic solutions. 

Due to strains in long winding supply chains there will be a drive to bring manufacturing home. As Ian Bremmer, president of Eurasia Group said, the focus will shift from "just-in-time" production to "just-in-case". This will undermine global trade, especially if accompanied by tariff rises – a feature of the Great Depression in the 1930s.

The economic damage from the shut down will be substantial and that means lots of new bad loans. This is particularly detrimental for Europe with its dependency on banks to fund the economy.

Depending on the economic downturn’s severity, banks may be forced by national authorities into further relaxing capital buffers and to vanish bad loans through ‘innovative’ accounting. 

A deep downturn could see jurisdictions significantly depart from Basel norms as domestic economic recovery takes top priority. This could see bank capital buffers exhausted as they become extensions of fiscal policy with little thought about credit risk.  

Even green finance could take a back seat if short-term economic expediency becomes the only priority.


Then there’s the intensifying US-China geopolitical rivalry. Already, there is a move towards two separate internets and sets of technological standards along US and Chinese lines and that is accelerating.  

Both the US and China are members of the Basel Committee. China has big financial services ambitions and a possible positive for globalisation and Basel is that it is opening up to foreign financial firms. But it is also establishing its own global financial and commodity benchmarks and eventually it will seek to influence global regulatory standards. That could play out in Basel Committee deliberations possibly leading to clashes with the US. 

Later on, China may pursue its own ‘global’ financial standards as is happening with technology and governance. This could encompass states hostile to the West and those in the Belt and Road Initiative, an ambitious geopolitical project. Indeed, China has already established the Asian Infrastructure Investment Bank to rival the World Bank and will seek to create an alternative to the US-centric financial system.  

The third major geopolitical player is the EU and within it the eurozone, which is always keen to export its rules abroad. It was the slowest to recover from the 2007-9 global financial crisis and much of its banking system was still healing before Covid-19 struck. It is looking particularly fragile with member states going alone in combating Covid-19 and are finding it difficult to take coordinated fiscal decisions to support the euro. They could be tempted to permanently deviate from Basel standards, especially as weaker states desperately seek capital to re-fire their battered economies. 

And the US is already deviating by temporarily excluding holdings of US Treasuries and deposits by banks with the Federal Reserve from the supplementary leverage ratio. Some believe this will become permanent.  

Maybe the only escape is a giant debt write-off by central banks of all the bonds they have bought, but that is still a very big psychological leap for policy-makers. 

Meanwhile, it is thanks to regulatory reforms by the Basel Committee that bank capital buffers were large enough to relax. The Financial Stability Board makes global regulatory cooperation more effective. And deviating from global standards would undermine needed cross-border capital flows and raise the cost of capital for many countries. 

Hopefully, national authorities will ponder those facts before indulging in overly nationalistic impulses. 

The topic of deviating from Basel norms will be further explored in the May issue of Global Risk Regulator