Investors cheered Federal Reserve Chairman Jerome Powell’s Jackson Hole speech on Friday, with markets interpreting it to mean that the central bank would not too quickly wind down its support of the economy. But not every speaker at the annual gathering gave cause for optimism.

Don Kohn, the Fed’s former vice chair for financial supervision, used the opportunity instead to warn of imminent risks to the stability of the global financial system, and called on regulators and lawmakers to take swift action to address those concerns.

“Dealing with risks to the financial stability is urgent,” he said during a speech to the Federal Reserve Bank of Kansas City’s annual Jackson Hole Economic Policy Symposium. “The current situation is replete with…unusually large risks of the unexpected, which, if they come to pass, could result in the financial system amplifying shocks, putting the economy at risk.”

Kohn pointed to the minutes of the most recent Federal Reserve meeting, which indicated that members of the bank’s interest-rate setting committee saw there were “notable” vulnerabilities in the financial system as asset values have risen to historical highs and government and private debt have reached near-record levels relative to the size of the economy.

Despite these excesses, investors don’t appear concerned, as evidenced by low interest rates on a wide range of government
and corporate debt “even though a disproportionate increase in private debt has been among lower-rated business borrowers,’ he said.

What’s more, Kohn said, the government appears to be in a poor position to respond to an economic downturn that could result from a bursting of an asset bubble or a debt crisis, given that the Federal Reserve is already engaged in aggressive monetary stimulus, while the federal government is maintaining a historically high budget deficit.

Kohn’s wariness about the state of the economy and financial markets is shared among many high-profile investors, with GMO co-founder Jeremy Grantham being one of the most high profile advocates of this point of view. In June, he argued the Fed should “act to deflate all asset prices as carefully as [it can], knowing that an earlier decline, however painful, would be smaller and less dangerous than waiting.”

Unlike such bubble-watchers as Grantham, however, Kohn is not laying the blame for high debt and asset prices at the feet of Fed policy. Rather, he is arguing that the central bank must prepare now for a potential bubble bursting through prudential regulation.

One strategy for insulating the U.S. economy from the bursting of an asset bubble would be to require major banks
to fund themselves with less debt and more equity, in the form of retained earnings or money raised from stockholders.

The Fed’s so-called countercyclical capital buffer enables the regulator to modify how much debt banks are able to take on, decreasing the level in good times when banks can afford to do so.

“By raising capital requirements during boom times, that could put a break on runaway asset prices,” Jeremy Kress, a former attorney in the banking regulation and policy group at the Federal Reserve, and a professor at Michigan’s Ross School of Business, told MarketWatch in June. “The Federal Reserve, in contrast to other countries, has never turned on this discretionary buffer. Perhaps now might be a good time to activate it,” said Kress.

Kohn urged the Fed to increase the counter-cyclical capital buffer, something that Randal Quarles, the current Fed vice chairman for financial supervision, has resisted doing, telling an industry audience in June that raising the buffer would “needlessly reduce the ability of firms to provide credit to their customers.” The disagreement could soon become political, as President Joe Biden’s progressive allies have called on him to nominate either a Fed chair or vice chair that is more amenable to tougher rules on bank lending.

Kohn also took aim at two creations of the Dodd-Frank financial reform law instituted in the wake of the last financial crisis: the Financial Stability Oversight Council, which comprises the heads of all the major financial regulatory bodies, and the Office of Financial Research, which was equipped with subpoena power so regulators could demand information needed to maintain financial stability.

“I think most would agree that the performance of these two new entities has been spotty,” Kohn said, arguing that FSOC has proven unable to act quickly while the OFR has never used its subpoena power for fear of ruffling feathers in the industry. He argued that FSOC should be reorganized to give the treasury secretary more power to act unilaterally and that the OFR should be given a new, clear mandate to regularly gather information policymakers need.

Kohn also called on Congress to pass a new mandate for all federal financial regulators to make financial stability a priority.

“Right now, systemic risk is not something they are required to take into account as they carry out their missions,” he said. “They should be required to broaden their perspective to consider the systemic implications of their actions and of the activities and firms they oversee and be held accountable for doing this.”