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EMBARGOED UNTIL MONDAY, APRIIL 4, 2016 AT 10:15 A.M. EASTERN TIME OR UPON DELIVERY Perspectives on Risks – Both Economic and Cyber Eric S. Rosengren President & CEO Federal Reserve Bank of Boston April 4, 2016 Federal Reserve Bank of Boston 2016 Cybersecurity Conference Boston, Massachusetts bostonfed.org One Area of Risk: Economic ▶ Heightened concerns over China and Europe ▶ Volatile foreign and domestic markets ▶ Federal funds rate futures fell significantly, reflecting market expectations for only a very gradual increase in short-term interest rates ▶ My assessment – economy continuing to improve despite headwinds from abroad ▶ May imply more increases in the federal funds rate than are currently priced into futures market ▶ My outlook still calls for a gradual pace of increases ▶ Path is uncertain and will depend on incoming economic data 2 Another Area of Risk: Cyber ▶ Banks of all sizes are already taking significant steps to mitigate ▶ Active, strategic investment in mitigation ▶ Active supervision by examiners to insure effective controls ▶ Like terrorism – need continued vigilance and continuous improvement of defenses ▶ Bank robbery and fraud were localized problems ▶ Cyber attacks can originate from anywhere in the world ▷ ▷ Global population of attackers Seek opportunities (softer targets) without geographic preference ▶ Today’s conference will discuss continued mitigation 3 The Economy ▶ Domestic economy continues to improve ▶ Payroll employment grew by 215,000 jobs ▶ Some measures of wages and prices are trending up ▶ Global headwinds ▶ Trading partners continue to face challenges ▶ Several foreign central banks have eased ▶ Some financial markets have been volatile 4 Figure 1: Federal Funds Rate Projections Implied by the Federal Funds Futures Market on April 1, 2016 March 2016 - December 2018 3 Percent 2 1 0 Dec-2015 Dec-2016 Dec-2017 Note: The March 2016 rate is the actual March 2016 federal funds effective rate. Source: Bloomberg Dec-2018 5 Figure 2: Probability of Rate Increases At or Before the December 2016 FOMC Meeting Implied by the Federal Funds Futures Market on April 1, 2016 50 Percent 40 30 20 10 0 No Change Source: Bloomberg 1 Increase 2 Increases 3 or More Increases 6 Figure 3: Probability of Rate Increases At or Before the December 2016 FOMC Meeting Implied by the Federal Funds Futures Market 60 50 Percent Decrease No Change 1 Increase 2 Increases 3 or More Increases 40 30 20 10 0 1/22/2016 Source: Bloomberg 2/22/2016 4/1/2016 7 Figure 4: Global Stock Market Indices December 16, 2015 - April 1, 2016 110 Index, December 16, 2015=100 EURO STOXX 50 Japanese Nikkei 225 100 Shanghai Composite 90 80 70 16-Dec-15 06-Jan-16 27-Jan-16 17-Feb-16 Source: FT, STOXX Limited, WSJ, Bloomberg, Haver Analytics 09-Mar-16 30-Mar-16 8 Figure 5: U.S. Stock Market Indices December 16, 2015 - April 1, 2016 110 Index, December 16, 2015=100 100 90 80 Dow Jones 30 Industrials S&P 500 70 16-Dec-15 06-Jan-16 27-Jan-16 Source: S&P, NYT, WSJ, Haver Analytics 17-Feb-16 09-Mar-16 30-Mar-16 9 Figure 6: CBOE Market Volatility Index: VIX December 16, 2015 - April 1, 2016 30 Index 25 20 15 10 5 0 16-Dec-15 06-Jan-16 Source: WSJ, Haver Analytics 27-Jan-16 17-Feb-16 09-Mar-16 30-Mar-16 10 Figure 7: Nominal Broad Trade-Weighted Exchange Value of the U.S. Dollar December 16, 2015 - April 1, 2016 124 Index, 2010=100 122 120 118 116 114 16-Dec-15 06-Jan-16 27-Jan-16 Source: JP Morgan, Haver Analytics 17-Feb-16 09-Mar-16 30-Mar-16 11 Figure 8: Spread of Moody’s Seasoned Baa Corporate Bond Yield Over Ten-Year Treasury Yield December 16, 2015 - March 31, 2016 380 Basis Points 360 340 320 300 280 16-Dec-15 06-Jan-16 27-Jan-16 17-Feb-16 09-Mar-16 Note: Based on corporate bonds with remaining maturities of at least 20 years. Source: Federal Reserve Board, Haver Analytics 30-Mar-16 12 Figure 9: Unemployment Rate Projections of Federal Reserve Governors and Federal Reserve Bank Presidents, March 16, 2016 2016:Q4 - 2018:Q4 5.2 Percent Central Tendency 5.1 Median 5.0 4.9 4.8 4.7 4.6 4.5 4.4 2016:Q4 2017:Q4 Source: FOMC, Summary of Economic Projections (SEP), March 16, 2016 2018:Q4 13 Figure 10: Core Inflation Rate Projections of Federal Reserve Governors and Federal Reserve Bank Presidents, March 16, 2016 2016:Q4 - 2018:Q4 2.5 Percent Change from Year Earlier 2.0 1.5 1.0 Central Tendency 0.5 Median 0.0 2016:Q4 2017:Q4 Source: FOMC, Summary of Economic Projections (SEP), March 16, 2016 2018:Q4 14 Figure 11: Real GDP Growth Projections of Federal Reserve Governors and Federal Reserve Bank Presidents, March 16, 2016 2016:Q4 - 2018:Q4 4 Percent Change from Year Earlier Central Tendency Median 3 2 1 0 2016:Q4 2017:Q4 Source: FOMC, Summary of Economic Projections (SEP), March 16, 2016 2018:Q4 15 My Perspective on the Path of Monetary Policy ▶ Financial market volatility has subsided ▶ Most economic forecasts do not expect large spillovers to the domestic economy ▶ While problems could still arise, I would expect that the very slow removal of accommodation reflected in futures market pricing could prove too pessimistic ▶ If as I expect the incoming data continue to show a moderate recovery it will likely be appropriate to resume the path of gradual tightening sooner than is implied by financialmarket futures 16 Cyber Risk, However, is not Abating ▶ Financial institutions invest heavily in technology, and in keeping that technology safe ▶ Competition from “fintech” – appeals to customers looking for convenience ▶ Not burdened by brick and mortar ▶ Not regulated ▶ But may not be as focused on cybersecurity or economic downturns as banks 17 As Banks Innovate to Meet Competition, There Are New Risks ▶ Knowing customers through the branch network is much less prevalent ▶ Cyber crime can originate from anywhere there is a computer link ▶ Hard to find – particularly with large volume of transactions ▶ Large-scale attacks can occur suddenly 18 Mitigation is Critical ▶ Banks invest significant resources in personnel and software remaining up to date ▶ Important to share information and strategies – a topic for discussion today ▶ Having protocols ready, should a breach occur, is also important ▶ Resiliency; quick recovery of operations ▶ Plan for communication with stakeholders and regulators 19 Concluding Observations ▶ Some of the economic concerns from earlier this year seem to be receding ▶ Financial market expectations of a very slow removal of accommodation could, it seems to me, prove unduly pessimistic ▶ I expect a stronger economy which will lead to more tightening than is currently priced into futures market expectations over the next two years ▶ Cyber risks are not abating ▶ Banking organizations (and central banks) need to evolve with these risks and challenges 20
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