Global Financial Instability Persists

Independent Films, Politics

inancial stability risks have risen sharply in recent months, as slower economic growth, market turbulence in Europe, and the credit downgrade of the United States have weighed on the global financial system.

Financial markets have begun to question the ability of policymakers to command broad political support for needed policy actions.

“Over the last 6 months what we have experienced is a setback in the progress towards global financial stability that has reversed some of the gains that we had made over the past three years. And this has been reflected in an overall increase of financial stability risks and a significant increase in the degree of global risk aversion,” said José Viñals, Financial Counsellor and head of the IMF”s Monetary and Capital Markets Department, which produced the report. Improvements in financial stability over the past 3 years have been partly reversed, said Vinals.

In its latest issue of the Global Financial Stability Report [add link], the IMF said balance sheets, a snapshot of the assets and liabilities held by a government, financial institution or household, are strained by mounting debt or assets that have lost value.

The lack of progress to repair balance sheets r has raised concerns about the financial health of governments in advanced economies, banks in Europe, and households in the United States.

In Europe, concerns about government debt levels have spilled over to the region’s banking system, raising the cost of borrowing for many banks and reducing their market value.

The IMF estimates the sovereign credit risk experienced by banks in a number of European countries has increased since the start of 2010 by about € 200 billion. This figure is not a measure of banks’ capital needs, but rather it approximates the increase in sovereign credit risk experienced by banks over the past two years.

In the United States, there have been increased concerns about the longer-term sustainability of U.S. government debt. These concerns, if left unaddressed, could potentially reignite sovereign risks, with serious global consequences. At the same time, U.S. households are still repairing their balance sheets, a process that has weighed on economic growth, house prices, and U.S. banks.

The IMF said low interest rates, while necessary to help advanced economies support growth, can carry longer-term threats to financial stability. The search for higher investment returns is pushing some sectors in advanced economies, such as carry traders and hedge funds, to borrow more and vulnerable again, notably through non-bank channels such as. This raises the risk of greater deterioration in asset quality in the event of new shocks.

“I think advanced countries need to do two very important things. On the one hand they have to address the issue of the public finances, which is the root of the sovereign risk, through credible medium-term strategies for the consolidation of the public finances. And this is absolutely essential. And this would also be very beneficial for the banking system in Europe because it would be perceived as being less risky than nowadays. And the second thing which is fundamental is to enhance the resilience of banks, so that you can continue to provide credit for the economic recovery and cut the link between sovereign risk and banks,” Vinals said.

At the same time, many emerging markets are experiencing rapid loan growth and rising financial leverage. This could result in overheating pressures, a progressive buildup of financial imbalances, and worsening credit quality. Should global stability risks further intensify, emerging markets could face sudden capital outflows and financial strains.

“I think that emerging market economies need to take decisive policy action, on the one hand, to contain the domestic financial vulnerabilities in the form of excessive growth of credit, excessively high prices of real estate and other assets and so on. So they need to take appropriate action to contain these vulnerabilities and at the same time they have to be prepared to withstand external shocks linked to a significant worsening of the world economic climate and the possibility of capital outflows which may make money leave these countries after having come in for a long time,” Vinals said.

A lack of decisive policy action to fix the causes and legacy of the financial crisis that began in 2008 has led to the current situation. While the path to a sustained recovery has narrowed, it has not disappeared, the IMF said.

The Global Financial Stability Report was released the day after the IMF issued its outlooks on global growth and government debts and deficits, which show a weak and bumpy recovery from the crisis.
The report was released just ahead of the IMF’s annual meetings, which bring together global policymakers in Washington, D.C. for a series of discussions on the global economy.

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Directors:

• Muhamed sacirbey (UNTV-IMF)

Producers:

• Susan Sacirbey (UNTV-IMF)