By Marc Jones

Trade Tensions and Geopolitics Expose Fault Lines in Global Financial System

LONDON (Reuters) – Trade tensions and fractious geopolitics risk exposing deep fault lines in the global financial system, central bank umbrella body the Bank for International Settlements (BIS) said in its latest assessment of the state of the world economy.

Outgoing head of the BIS, often dubbed the central bankers’ central bank, Agustín Carstens, mentioned that the U.S.-driven trade war and other policy shifts were fraying the long-established economic order.

He noted that the global economy was at a pivotal moment, entering a new era of heightened uncertainty and unpredictability, which was testing public trust in institutions, including central banks.

The bank’s report is published just over a week before U.S. President Donald Trump’s trade tariff deadline of July 9 and comes after six months of intense geopolitical upheaval.

When asked about Trump’s criticisms of U.S. Federal Reserve Jerome Powell, including labeling the Fed chair as “stupid,” Carstens did not criticize Trump harshly. He stated, “It is to be expected at certain points in time that there will be friction,” referring to the relationship between governments and central banks. “It is almost by design”.

Dollar Drop

The BIS’ annual report, published on Sunday, is regarded as an important gauge of central bankers’ thinking given the Switzerland-based forum’s regular meetings of top policymakers.

Rising protectionism and trade fragmentation are “particularly concerning”, as they are exacerbating the already decades-long decline in economic and productivity growth, Carstens said.

There is also evidence that the world economy is becoming less resilient to shocks, with factors like population aging, climate change, geopolitics, and supply chain issues contributing to a more volatile environment.

The post-COVID spike in inflation appears to have had a lasting impact on the public’s perception about price moves, as indicated by a study in the report.

High and rising public debt levels are increasing the financial system’s vulnerability to interest rates and reducing governments’ ability to spend their way out of crises. “This trend cannot continue,” Carstens said, referring to the rising debt levels and warning that higher military spending could push the debt up further.

Hyun Song Shin, the BIS’s main economic adviser, also flagged the sharp fall in the dollar. It has dropped 10% since the start of the year and is on track for its largest first-half drop since the free-floating exchange rate era began in the early 1970s.

While there is no evidence indicating that this is the start of a “great rotation” away from U.S. assets, which some economists have suggested, Shin acknowledged it is still early to determine since sovereign funds and central banks move slowly.

However, shorter-term analysis shows that “hedging” by non-U.S. investors holding Treasuries and other U.S. assets has contributed to the dollar’s slide over the past few months. “We haven’t seen anything (yet) that would give us any cause for alarm,” Shin added.

The BIS had already published one part of its report last week that warned about the rapid rise of so-called stablecoins.

Regarding the BIS’ own finances, it reported a net profit of 843.7 million IMF SDR ($1.2 billion), while its total comprehensive income reached a record high of SDR 3.4 billion ($5.3 billion), and currency deposits at the bank also hit a new high. “It is important that the BIS has the highest creditworthiness out there,” Carstens said.