Interpretation of the Federal Reserve’s Financial Stability Report: Trade Wars, Policy Uncertainty, and U.S. Treasuries as the Biggest Risks to U.S. Financial Stability

Financial Associated Press, April 26 — The Federal Reserve’s latest semi-annual Financial Stability Report highlights that escalating global trade frictions, policy uncertainty, and concerns over U.S. debt sustainability have become the three major risks facing the U.S. financial system. This is the first time the Fed has systematically assessed financial risks following Trump’s return to the White House.

The report notes that 73% of respondents identified global trade risks as the most concerning issue, more than doubling from November last year. Meanwhile, over half of the experts surveyed regarded overall policy uncertainty as the second major risk, also higher than a year ago. Notably, 27% of respondents expressed concerns about the functioning of the U.S. Treasury market, up from 17% last fall. Risks related to foreign capital outflows from U.S. assets and fluctuations in the U.S. dollar exchange rate have also significantly risen on the radar.

Overall, the report reminds us that under the combined effects of global trade tensions, domestic and foreign policy uncertainties, and America’s mounting debt, market risks remain at relatively high levels, warranting continued vigilance.

Core Risk and Vulnerability Assessment from the Financial Stability Report

1. Asset Valuations Remain Elevated

The report notes that despite a liquidity squeeze-induced market tremor in early April, major asset prices remain at elevated levels.

Stock market valuations relative to analyst earnings expectations remain high, with P/E ratios approaching the upper end of historical ranges.
Yields across U.S. Treasury maturities remain at their highest levels since 2008, increasing the repricing risk for fixed income portfolios.
In real estate, especially the residential market, the price-to-rent ratio has approached the peaks seen during 2000–2010. Though the growth rate has slowed, absolute valuations remain high.

2. Escalation of Global Trade Frictions

Survey results show that 73% of respondents regard global trade risks as the top concern, more than double from November last year.

Several experts warned that tariff escalations among major economies like the U.S., China, and the EU could lead to supply chain restructuring and sharply higher costs, dragging down global growth.
Potential consequences of an escalating “trade war” include soaring commodity prices, shrinking corporate profit margins, and volatile capital flows in emerging markets.

3. Policy Direction Uncertainty

Over half of the experts surveyed ranked overall policy uncertainty as the second major risk, a notable increase compared to a year ago.

During his return to office, the Trump administration has frequently adjusted tariffs, budget appropriations, and public spending priorities, making it difficult for markets to form stable expectations.
Experts broadly believe that shifts in government spending priorities and uncertain international engagement have heightened caution in investment and employment decisions.

4. Concerns Over U.S. Debt Sustainability

The report ranks the sustainability of U.S. federal government debt among the top three risks, reflecting mounting worries over fiscal deficits.

As of the end of 2024, U.S. federal debt as a percentage of GDP has approached historic highs. Further interest rate hikes could significantly increase fiscal interest expenses.
Experts point out that high debt levels may erode the government’s fiscal maneuvering space during economic downturns and raise the risk of future credit rating downgrades.

5. Functioning of the U.S. Treasury Market

27% of respondents expressed concerns about the “liquidity and operational order” of the U.S. Treasury market, a sharp rise from 17% last fall.

The report warns that dealer intermediation capacity may tighten during periods of extreme volatility, amplifying market shocks.
Although liquidity briefly tightened in early April, overall Treasury trading remained orderly, without systemic failures.

6. Foreign Capital Outflows and Dollar Exchange Rate Risks

Both “foreign investor withdrawals from U.S. assets” and “large fluctuations in the U.S. dollar exchange rate” have climbed on the risk watchlist.

Global policy divergence and trade tensions have prompted some foreign investors to reassess the risk-reward balance of holding U.S. Treasuries and equities.
Dollar appreciation or depreciation at different points could create spillover effects on multinational corporate profits, capital flows, and emerging market stability.

7. Banking System and Non-Bank Financial Institution Risks

The report acknowledges the robust capital adequacy and liquidity of major banks but also highlights some vulnerabilities.

By the end of 2024, bank CET1 capital ratios remained at the high end of the 2010–2024 range, and profitability was strong.
Rising interest rates have caused unrealized losses of $182 billion and $297 billion respectively on banks’ available-for-sale and held-to-maturity securities portfolios.
Hedge fund leverage reached historic highs in Q3 2024 but partially unwound some highly leveraged positions by early April, easing leverage pressures.
Banks’ reliance on non-insured deposits has declined compared to early 2022–2023 highs, but their growing credit exposures to non-bank financial institutions pose contagion risks.

8. Real Estate Market Developments

The report evaluates both residential and commercial real estate, noting generally high valuations but signs of recent divergence.

Residential price-to-rent ratios have neared 2007–2010 peaks. Post-pandemic housing prices soared, but growth has slowed since late 2024.
Commercial real estate, after steep declines in 2022–2023, showed signs of stabilization in early 2025. However, nearly $1 trillion in loans are maturing in 2025, posing refinancing pressures.
Sentiment in the commercial real estate (CRE) financing market recorded the second-largest drop since the pandemic in Q1, with 80% of participants pessimistic about the next 12 months.

9. Corporate and Household Debt Conditions

The report finds that while overall leverage for corporations and households has retreated from historic highs, pockets of risk remain.

Household debt as a percentage of GDP is near 20-year lows, with mortgage leverage well below mid-2000s peaks and debt service ratios remaining healthy. However, delinquency rates on credit card and auto loans have surpassed pre-pandemic levels, and subprime borrower defaults are rising alongside student loan repayment pressures.
Corporate leverage has declined overall, but investment-grade corporate bond spreads remain historically tight, posing valuation correction risks.

10. Cybersecurity and Infrastructure Risks

The report especially warns that cyberattack threats to financial infrastructure are rising, potentially disrupting settlement systems and data security.

Growing reliance by financial institutions on external service providers increases the risk of systemic cascades if critical nodes are attacked.

The Crypto Market’s Linkage with Macro Risks

1. Shift in Bank Regulation Towards Crypto

On April 24, the Fed, FDIC, and OCC jointly rescinded two 2023 regulatory guidelines concerning banks’ crypto activities, encouraging engagement in crypto and stablecoin businesses under regulatory compliance.

Previous guidelines required pre-approval before banks could engage in crypto activities, stressing volatility, legal, and liquidity risks; the new move signals a “prudently open” approach.
Regulatory relaxation expectations quickly transmitted to the market, significantly boosting crypto banking service demand and cooperation opportunities.

2. Impact on Bitcoin and the Broader Crypto Market

Against this regulatory backdrop and amid dollar fluctuations, Bitcoin once again surged to the $95,000 level in mid-April.

In a tightening credit environment, leveraged traders often seek high-volatility assets to hedge interest rate risks, boosting Bitcoin demand.
Trade tensions and a stronger dollar have also driven some cross-border capital allocations into crypto assets to diversify away from single-currency risks.

3. Macroprudential and Systemic Considerations

Although crypto assets currently represent a relatively small market, their high volatility and potential “transmission effects” have drawn increasing macroprudential attention.

The IMF and other international bodies have called for incorporating crypto asset risks into stress testing frameworks for banks and shadow banks.
If banks expand into crypto custody, lending, or market-making activities, sharp price swings could transmit risks through credit chains to the banking system.

Conclusion

The Federal Reserve’s Financial Stability Report released on April 25 offers a detailed and wide-ranging depiction of the multi-layered risks currently facing the U.S. financial system. Trade frictions, policy swings, and massive debt burdens — the “top-tier risks” — are interacting with elevated asset valuations, Treasury market volatility, non-bank leverage expansion, real estate and debt pressures, and cybersecurity vulnerabilities to create complex systemic challenges.

Powell’s reaffirmation of central bank independence and the regulatory softening toward crypto provide important clues for future policy paths and market structure shifts. In an environment of heightened uncertainty, market participants and regulators must work closely to strengthen macroprudential frameworks and risk management strategies to navigate the shifting landscape steadily.