The renewed bouts of market turbulence in Europe and the United States have created further uncertainties and unknown implications for the Australian economy, according to the chair of the financial regulator.
The Australian Prudential Regulation Authority (APRA) chairman John Laker said that despite the industries regulated by APRA being in good shape at year-end, APRA "will need to maintain the intensity of its supervisory and policy activities in the current year, and possibly beyond the current year".
"Unfortunately, the global financial crisis (GFC) is not over," Laker said.
He said APRA's oversight of the strategies, risk management systems and capital positions of institutions have been vindicated by recent developments.
"The sharp decline in global and domestic equity markets since year end has had an immediate impact on the life insurance industry, which APRA is monitoring closely, and has eroded returns for superannuation funds," he said.
"The crisis is entering what the International Monetary Fund has described as a 'dangerous new phase'."
According to Laker, authorised deposit-taking institutions (ADIs) - including banks, building societies and credit unions - will face two challenges amid the deteriorating environment.
"The first is the danger of a widespread dislocation in global funding markets, in a rerun of October 2008," he said.
"Risk aversion has intensified in bank funding markets in the euro area, where credit spreads have widened considerably, and it appeared to be broadening."
He said the larger ADIs in Australia that tap global funding markets have very little direct exposure to the European banks and sovereigns under pressure however they would not be immune if risk aversion tarred all internationally active banks whatever their underlying quality.
"That said, the larger ADIs are now much better positioned to cope with a loss of access to global funding for a period," he said.
He said the second challenge will be "coming to terms with life in the slow lane".
"The cautious attitude of households and businesses in Australia, which will be reinforced by recent global developments, will very likely deny ADIs the strong volume growth that supported a sustained period of profit increases before the crisis," he said.
"Unless shareholder expectations adjust to the prospect of lower returns on equity, boards and management may be tempted to chase unrealistic expectations by assuming more risk or by aggressive cost cutting that may weaken risk management capacities."
