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The Financial Stability Oversight Council (FSOC) has zoned in on marketplace lending and distributed ledger technology as emerging threats to the safe operation of financial markets.

In its annual report, the US Treasury agency body says that as marketplace lending continues to grow, financial regulators will need to be attentive to signs of erosion in lending standards.

"Marketplace lending is an emerging way to extend credit using algorithmic underwriting which has not been tested during a business cycle, so there is a risk that marketplace loan investors may prove to be less willing than other types of creditors to fund new lending during times of stress," states the report.

The Council warns that the market may also come to be a source of future systemic risk as institutional investors and banks pile in: "Given the rapid rise in the number of marketplace lenders who often compete with traditional lenders for the same borrowers, there is a risk that underwriting standards and loan administration standards of these lenders could deteriorate to spur volumes, which could spill over into other market segments."

As with marketplace lending, distributed ledger systems also pose certain risks and uncertainties which market participants and financial regulators will need to monitor, states the Council.

"Market participants have limited experience working with distributed ledger systems, and it is possible that operational vulnerabilities associated with such systems may not become apparent until they are deployed at scale," states the report, pointing to recent delays in bitcoin trade confirmations and associated market volatility.

"Similarly, although distributed ledger systems are designed to prevent reporting errors or fraud by a single party, some systems may be vulnerable to fraud executed through collusion among a significant fraction of participants in the system."

Regulators will need to adapt to the changing market structure as distributed ledger systems come online, the FSOC says.

"Since the set of market participants which makes use of a distributed ledger system may well span regulatory jurisdictions or national boundaries, a considerable degree of coordination among regulators may be required to effectively identify and address risks associated with distributed ledger systems," the report concludes.

 

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