272 2019 Universal registration document and annual financial report - BNP PARIBAS

5 risks and CaPital adequaCy Pillar 3

5

Annual risk survey

In this context, the following risk categories can be identified:

Risks of financial instability due to the conduct of monetary policies In mature economies, the interest rate environment has changed drastically in the final quarters of 2019 in terms of central bank key interest rates, negative bond yields and flattened yield curves. Bank revenues were strongly impacted by a flat yield curve, negative central bank deposit rates and the difficulty of passing on negative rates to customers. Whilst several years ago, such developments would have been considered temporary and exceptional, the risk of this situation proving to be more long-term now seems increasing high.

In addition, a low (or zero) return on less risky assets and the ease of use of leverage may have two potential consequences:

■ investment in more risky assets to generate higher returns (increased exposure to credit risk with downgrading ratings);

■ the emergence of financial bubbles in certain asset categories such as real estate or the financial markets (stock market, private equity, bonds, etc.).

Some major financial players (insurance companies, pension funds, asset managers, etc.) have an increasingly systemic dimension and, in the event of market turbulence, could be brought to unwind large positions in a context of relatively weak market liquidity. The risk of a sharp increase in long-term interest rates and/or marked price corrections has greatly diminished since the reversal of monetary policies this year, but it cannot be excluded. In a number of asset markets, risk premiums are low compared with their historical average following a decade of accommodative monetary policies (lending to non-Investment Grade companies and countries, certain equity and bond market segments, etc.).

Systemic risks related to increased debt In a number of economies, there are still marked imbalances in public finances. Although extremely low interest rates (supported by central banks asset purchases) considerably reduced short-term threats by reducing debt servicing and gave governments more room for manoeuvre, risks still exist in the medium term. Euro zone countries are particularly affected by these risks for institutional reasons (budgetary constraints and fragmented bond market). In some economies, certain imbalances were also observed in the private sector (household debt in particular).

Furthermore, some emerging countries, including foreign currency debt and debt owed to foreign creditors, have also recorded a marked increase in their debt since 2008. Public and private debt could reach levels that are cause for concern. The deterioration in the debt profile may lead to downgrading by ratings agencies, followed by an increase in risk premiums and debt servicing, which could damage investor confidence and lead to capital outflow, heightening the negative effects listed above.

While the Group s exposure to emerging countries is limited, the vulnerability of these economies may generate disruptions in the global financial system that could affect the Group and potentially affect its results.

It should be noted that debt-related risk could materialise, not only in the event of a sharp rise in interest rates, but also with any negative growth shocks.

Risks of reduction of international trade from protectionist measures

The trade dispute between the United States and China worsened in 2019, with additional customs duties on imports imposed by the United States leading to retaliatory measures from China. In addition to the trade dispute, other clashes could occur, notably regarding exchange rates and technological leadership. A further dispute could arise between the United States and the European Union. In the longer term, the increase in protectionist policies threatens the smooth operation of supply chains and undermines continued globalisation.

Trade disputes are likely to slow global growth, reducing trade volumes, disrupting production chains and negatively impacting the confidence of economic agents and the financial markets.

Laws and regulations applicable to financial institutions

Recent and future changes in the laws and regulations applicable to financial institutions may have a significant impact on the Bank. Measures that were recently adopted or which are (or whose application measures are) still as projects, that have or are likely to have an impact on the Bank notably include:

■ regulations governing capital: CRD 5/CRR 2 adopted in May 2019, the international standard for Total Loss Absorbing Capacity (TLAC) and the Bank s designation as a financial institution that is of systemic importance by the Financial Stability Board;

■ the European Single Supervisory Mechanism and the Ordinance of 6 November 2014;

■ the Directive of 16 April 2014 related to deposit guarantee systems and its delegated and implementing acts, the Directive of 15 May 2014 establishing a bank recovery and resolution framework, the Single Resolution Mechanism establishing the Single Resolution Council and the Single Resolution Fund;

■ the Final Rule by the U.S. Federal Reserve imposing tighter prudential rules on the U.S. transactions of large foreign banks, notably the obligation to create a separate intermediary holding company in the U.S. (capitalised and subject to regulation) to hold their U.S. subsidiaries;