The dramatic changes we’ve seen in the structure of financial markets over the past decade and more seem likely to have reduced this vulnerability {to financial crashes}. The larger global financial institutions are generally stronger in terms of capital relative to risk. Technology and innovation in financial instruments have made it easier for institutions to manage risk. Risk is less concentrated in the banking system, where moral hazard concerns and other classic market failures are more likely to be an issue, and spread more broadly across a greater diversity of institutions.
And yet this overall judgment, that both financial efficiency and stability have improved, requires some qualification. Writing a decade ago about the history of the financial shocks of the 1980s and early 1990s, Jerry Corrigan argued that these same changes in financial markets we see today, though less pronounced then than now, created the possibility that financial shocks would be less frequent, but in some contexts they could be more damaging. This judgment, that systemic financial crises are less probable, but in the event they occur could be harder to manage, should be the principal preoccupation of market participants and policymakers today.
What factors might contribute to this risk, a risk that could be described as the possibility of longer, fatter tails? One reason is a consequence of consolidation... Another reason is the consequence of leverage... A third reason is the consequence of long periods of low losses and low volatility.