AI poses growing risk to financial markets, US regulator cautions

  • The Financial Stability Oversight Council (FSOC) described AI as a risk to financial markets
  • Key risks include AI's lack of decision-making transparency and job displacement
  • Their report also acknowledges the “increasing efficiency and innovation” of AI
CFA AI

For the first time, the Financial Stability Oversight Council (FSOC), a body overseeing the stability of the US financial system, has flagged AI as a significant economic risk factor. 

In a recent council meeting, Treasury Secretary Janet Yellen, chairing the FSOC, addressed the concern posed by AI. The FSOC’s annual report lists AI among 14 potential risks to financial markets. 

She stated, “Supporting responsible innovation in this area can allow the financial system to reap benefits like increased efficiency, but there are also existing principles and rules for risk management that should be applied.”

Yellen sees AI as an “emerging threat” to financial stability but believes that “existing regulations could be used to curb the technology’s potential market risks.”

Risks cited include AI’s “black box” problem, which refers to the lack of clarity in how AI models make decisions. We can’t ‘see’ inside closed AI algorithms – only inputs and outputs are visible to external observers, including financial institutions, unless they develop their own AI systems or strike deals with companies to ensure transparency.

This impacts the reliability and fairness of AI-driven processes in critical financial decisions. If you can’t see the inner mechanics of AI decision-making, then diagnosing erroneous outcomes becomes nigh impossible. 

Other risks cited by the FSOC include AI’s impact on jobs, with numerous studies and surveys predicting some level of displacement.

Regulators and industry leaders face the dual challenge of ensuring AI systems in finance are transparent, fair, and ethical while addressing the impacts of AI adoption on the workforce. 

Gary Gensler, Chair of the Securities and Exchange Commission and a member of the FSOC, expressed his concerns to the Financial Times: “Without swift intervention by regulators to tame the risks of AI, it was ‘nearly unavoidable’ that the technology would trigger a financial crisis within a decade.”

An official elaborated on AI’s role, stating, “AI’s use in financial services has increased in recent years, thanks to more advanced algorithms, increased volumes of data, data storage and processing power improvements and cost reductions among many of these dimensions.” 

The official acknowledged AI’s potential for “increasing efficiency and innovation” but also cautioned about the “certain risks” it introduces.

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