In its annual report released at the end of June, the Bank for International Settlements (BIS) issued a clear and forceful warning about the growing risks of global economic fragmentation. According to the BIS, rising protectionism, weakening international cooperation, and the expanding role of non-regulated financial entities are converging into a dangerous mix that could destabilize the financial system. If left unaddressed, these trends could ignite a global financial panic—starting in bond markets and spreading rapidly across currencies and credit systems.

A Pivotal Moment for the Global Economy

BIS General Manager Agustín Carstens emphasized that the global economy stands at a “pivotal moment” requiring a fundamental reassessment of its assumptions. After more than a decade of growing international coordination following the 2008 crisis, current political and economic developments are eroding the institutional framework that underpins financial stability. One of the key drivers of this erosion is a sharp turn away from open trade policies, accompanied by reciprocal tariffs, export controls, and declining commitment to multilateral institutions.

According to the BIS, the risks are not hypothetical. There’s a marked decline in cross-border financial activity, a shift toward regional payment infrastructures, and diminishing trust among major economies. These trends weaken the global system’s capacity to respond to future shocks and amplify the risk of isolated disruptions escalating into systemic crises.

Trade Breakdown and Loss of Economic Cohesion

The report places particular emphasis on the deterioration of international trade cooperation. The BIS warns that rising trade barriers—whether in the form of tariffs, regulations, or domestic industrial preferences—create a cumulative effect that stifles productivity, drives up prices, and erodes investor confidence. The globalization era that powered decades of rapid growth is slowly being replaced by nationalist policies that favor separation over integration.

These developments are already visible: supply chains are becoming more expensive and less reliable, cross-border investments are slowing, and many firms are reducing their exposure to global markets. The BIS fears that the world is moving toward “fragmented economic blocs,” each with its own rules, currencies, and standards—an inherently unstable configuration if it evolves chaotically.

Structural Risks Within the Financial System

In addition to geopolitical challenges, the BIS highlights internal weaknesses within the financial system itself. Non-bank financial institutions—such as hedge funds, leveraged asset managers, insurance companies, and alternative investment vehicles—are playing an increasingly dominant role in capital markets. Yet they operate without the same oversight mechanisms that govern traditional banks. This shift raises the likelihood of market disruptions, particularly if these entities are forced to unwind positions quickly during periods of volatility.

The report specifically draws attention to the rapid growth of the FX swap market, which now exceeds traditional foreign exchange volumes. This market lacks transparency and is vulnerable to sudden liquidity shocks. As more institutions rely on such instruments for hedging or speculative purposes, systemic exposure grows, increasing the potential for contagion.

Public Debt and Fiscal Inflexibility

Another core concern in the report is the diminishing ability of governments to respond to crises with fiscal stimulus. Many advanced economies now carry high levels of debt relative to GDP, limiting their flexibility to act in downturns. Rising interest rates are making it more costly to service existing debt, and investor skepticism is becoming more visible in sovereign bond markets. In parallel, the BIS warns that some governments may be tempted to adopt populist or short-term policies—such as subsidies or excessive spending—that undermine long-term sustainability.

Market Behavior and Risk Sentiment

In currency and bond markets, investors are already showing signs of caution. Capital is being shifted toward safer assets, while more volatile instruments are being avoided. The U.S. dollar, traditionally seen as a global anchor, has been gradually weakening, reflecting growing uncertainty about its central role. Equity markets have also become more volatile, reacting sharply to signals of geopolitical tension or trade-related setbacks.

Overall, the investment community appears hesitant and risk-averse, favoring liquidity and flexibility over yield. This behavior suggests that markets are pricing in the potential for instability—even if the trigger has yet to materialize.

BIS Recommendations: Coordination, Regulation, and Fiscal Discipline

To counteract these mounting risks, the BIS urges a renewed commitment to international cooperation. Governments and central banks are called upon to strengthen multilateral institutions, reduce trade restrictions, and modernize regulatory frameworks for non-bank financial players. The report also calls for fiscal responsibility, including careful debt management and long-term structural reforms aimed at boosting productivity and resilience.

Moreover, the BIS emphasizes the importance of restoring trust—both among institutions and within the broader public—in the ability of the financial system to manage future challenges. Without such trust, even minor disruptions could have outsized consequences.

Conclusion

As the global economic order becomes increasingly fragmented, the BIS stands out as a rare and sober voice of warning. Continued divergence among major economies, growing financial opacity, and the erosion of multilateralism could converge into a tipping point—triggering financial panic that spreads across bond, currency, and equity markets.

Although the crisis is not yet inevitable, the path to stability demands leadership, transparency, and a recommitment to coordinated action. In an era of rising mistrust, only a renewed spirit of cooperation can shield the world from the next great economic shock.