Global Financial Stability Report
Market Developments and Issues
September 2004


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Transcript of a Press Conference on the Global Financial Stability Report
Gerd Häusler, Counsellor and Director, International Capital Markets Department
Hung Tran, Deputy Director, International Capital Markets Department
International Monetary Fund
September 15, 2004
Washington, D.C.

View this press briefing using Media Player

MR. MURRAY: Good day. I'm Bill Murray, Deputy Chief Press Officer at the IMF, and this is the Global Financial Stability Report press conference. The semiannual report is a product of the IMF's International Capital Markets Department and is reflective of the global economic surveillance mandate of the IMF.

Before I make introductions, let me just cover some ground rules very briefly. This briefing, along with the latest Global Financial Stability Report, is embargoed until 1500 GMT, which is 11:00 a.m. Washington time. We are currently web casting this briefing on the IMF's online media briefing center, so for any of our viewers, they should also adhere to that embargo. Viewers also have the option of e-mailing questions during this press conference. We will try to get to the questions during the briefing, but I can't guarantee that. But we will get back to you, and we plan to get back to you before the embargo expires at 1500 GMT.

Now, let me just turn to the introductions. Immediately to my right is Gerd Häusler, who is Counsellor and Director of the International Capital Markets Department, and to Gerd's immediate right is Hung Tran, Deputy Director of ICM.

Gerd will have some brief opening remarks, and then we'll be happy to take your questions. Gerd?

MR. HÄUSLER: Thank you, Bill, and good morning to all of you. I've just discovered it's been since June 2002, more than two years ago, that Hung Tran and I have done our last presentation, press conference of the GFSR, the Global Financial Stability Report, here in Washington. We've been traveling to other places, and now it's time to come back for a change.

I understand that you all have the written opening remarks, if you like. We have put them out, and I hope that those on the Web, who follow this on the Web have the same. I felt it would be too long to read them out to you, as I have done sometimes in the past, and I just thought we'd give them to you. I would like, if I may, just to focus on a few messages coming out of this statement and, more importantly, coming out of the report itself.

Now, while I focus on messages, I will still strongly encourage you at some point in time to look at the entire report. There are too many good things in there, and so if I don't mention everything, make sure you read it at some point.

First of all—and I will focus on two things. One is on the present state of affairs in a cyclical way. The second is structural changes in the financial sector underway, which, by definition, is more of a medium-term issue.

Now, as you can see right in the opening paragraph, our assessment on stability of the global financial system is currently very positive. Some might even say it's sanguine. And if I just sort of refresh your memory, we say something like, "The financial system has not looked as resilient as it does in the summer of 2004 in the three years since the bursting of the equity bubble." And on and further down we even say, "Short of a major and devastating geopolitical incident or a terrorist attack undermining consumer confidence, it is hard to see where systemic threats could come from in the short term." This is not sort of necessarily the bureaucratic jargon that you might sometimes expect.

Where do we take the courage from to come up with such statements?

Now, let me explain why we take that view. First of all, just to be a little bit cautious, we did add one or two caveats. I just read out the potential geopolitical concerns, and we also make it clear that we are—our judgment, our assessment is focused on the short term, say six months down the road until the next report will come out in the spring of 2005.

But on substance, first of all, we look at the valuations of financial assets and find that they are not excessive at the moment one way or the other. And we also think that markets, fixed-income markets, but other asset markets have adapted nicely, so to speak, to the well-telegraphed interest rate hikes, especially, of course, by the Federal Reserve here in this country, but by some of the other central banks as well, just to mention Australia and the U.K., but they were not the only ones. And in a way, as an ex-central banker that I was for 18 years, I take a certain comfort that transparency in central banking pays off so nicely by not upsetting the market when you hike interest rates.

But at the same time, this, if you like, new style of transparent central banking may also be responsible for a very low volatility in the market. The very low volatility that you can observe in practically every asset market, with the exception of the oil market, is also a sign, as I said, that things are rather stable, and we don't—markets do not expect any short-term shocks.

Another reason is the risk appetite on the part of financial institutions, as we see it, is in a fine balance between, if I may use that jargon, between fear and greed. And I hope that doesn't change so soon. It is not easy to measure this risk appetite, but if you look at a number of other factors like price earnings ratios, cash levels, and in the credit market the search for yield, it all points that this is somewhat in a balance at the moment. And I mentioned low volatility already.

Equally important, or you may even say more importantly, the balance sheets of financial and nonfinancial institutions have been either repaired where necessary, which was necessary in the case of a few, but overall they have been strengthened. And, specifically, since we speak about the financial sector, financial institutions more specifically are, by and large, well capitalized, sometimes very strongly capitalized, and, hence, they are strong due to a number of factors which made the financial institutions recover so nicely over the last couple of years.

You saw the steep yield curve, which still persists, which allowed, of course, the so-called beneficial carry trades. Simply on this aspect alone, a number of institutions could become profitable. Loan loss provisions for those who carry loans have been sharply down, not the least in the case of Europe where loan loss provisions had been up very much and we had grown concerned in some of our previous GFSRs, as some of you may remember.

But there's a number of other factors at work, cost reductions overall, and, for instance, recapitalization in a number—in the case of a number of European insurance companies earlier this year and especially in 2003.

All said and done, last not least, there's one more factor which I find or we find very important and which then sort of leads us nicely into the second, if you like, message as to the more medium-term and structural. Financial institutions and, first and foremost, banks have done what the jargon called risk management, which is a nice way of saying—which is a shorthand for fundamental changes in the financial sector intermediation process. And for the health of the banking system, shedding interest rate risk when this maybe was not rewarded enough and the premium for interest rate risk was—excuse me, for credit risk was not high enough, it turned out to be quite beneficial for the banking sector.

But it has structural implications, and the Global Financial Stability Report has a special chapter on pension funds this time around, but you will remember we had other chapters on the insurance sector, and from very early on we focused on these more medium-term changes. We have started to analyze some time ago the transfer of financial risk from the banking system to the non-banking system, and we will continue to do so in future reports, as I will point out in one minute.

So as I just said, the banking system has reduced its intermediation of risk worldwide and has become, therefore, less of a shock absorber because it's by definition less under pressure if you carry less risky assets on your balance sheet. This is a trend that has started quite some years ago, maybe 10, 15, years ago, especially in the United States first, but the same trend has now come to Europe and meanwhile, also, more recently to Japan and other financial sectors outside the banking system. Just to mention the insurance industry, the pension fund industry, and a few others have increased their holdings of credit and market risk through more and more sophisticated capital markets with instruments that allow you to pick and choose the kind of risk profile that you would like to see.

Now, banks may still originate much of the credit risk as before because they are closest to the clients, or in the jargon, they own the clients. But that does not necessarily mean that they are warehousing the risk as they did in the past. They can pass it on and they do pass it on. And as I said, the previous GFSR looked at insurance and this one looks at pension funds, our report in front of you. It's a fairly sizable chapter, and I would very much encourage you to look at it because it will be—this will be an issue not just for the next couple of months. This will be an issue for many years to come.

Now, broadly speaking, we here in my department and at the Fund, we welcome these developments. We believe that a capital market-driven and a fully funded pension system, which we need in many countries much more than we had in the past, needs appropriate assets, and these assets need to fit the liability structure and an asset/liability management that is driven more and more by economic considerations and is focusing more on risk management, but also this development needs to be reflected in regulatory standards which look at the right parameters.

Now, some of these institutional investors are either no shock absorbers at all anymore, like mutual funds or pension funds on defined contributions, because they pass on the risk to the ultimate holder of the pension claim or on the holder of the mutual fund claims, or in some cases they have started to devise schemes for sharing financial risk with their clients, which are so-called hybrid systems.

So, in other words, the non-banking financial sector has de facto started to play catch-up with the banking sector by also branching out or parking out financial risk to the next sector, if you like, and the next sector is obviously the household sector. And that is something that is very much on our minds these days. Previous GFSRs have mentioned it, and we mention it here, and we are—and the next GFSR, let me flag that to you, in the spring of 2005 will deal with mutual funds, which, I said, they intermediate but they don't absorb shocks, and will also deal extensively with the household sector as the shock absorber of last resort, as we call them in this report in front of you.

Now, this is about shades of gray. I'm not saying it's black and white. I'm not saying that these financial institutions do not absorb risk anymore. Quite the contrary. But we're talking about trends and, hence, shades of gray.

Now, the household sector, when it increases its risk exposure and becomes more and more a shock absorber, partly because they do not mark to market, and that is a—accounting is something that we have to be taking into our equations. By the way, if the trend towards mark to market continues the way it is, which is a very difficult topic in itself, the household sector may wind up to be the only sector in the end which does not mark to market.

But all these things we'll analyze more in detail the next time around. All I'm trying to tell you today in this context is that this transition from a pay-as-you-go system to a defined benefit pension system and then possibly to a more defined contribution system, 401-K plans, this will not be without consequences, and let me just flag two.

If you transfer risk from the wholesale financial sector more to the retail sector, this is a quantum leap, not the least because we're dealing with totally different investor protection schemes, and also we're dealing—in some countries more than in others, we're dealing with political sensitivities when it comes to potential losses which would be borne directly by households as opposed to being buffered through the financial sector. Clearly, those of you who are familiar with Europe know this quite well.

And the last point is economically. That was politically. Economically, the transmission channels of financial market shocks towards the real economy may change. They may become more diverse, and some of these shocks may travel increasingly through the household spending, or lack thereof, and, hence, the wealth effect in the private sector and the relevance for the real economy may become more pronounced.

But I will stop here for the time being, and one last time encourage you not to read only the statement that we handed out but the report as a whole. Thank you very much.

MR. MURRAY: Thanks, Gerd.

Before we take questions, just let me remind you, please use your microphones for our transcript purposes and also for the viewers on the web cast.

I'll open the floor to questions.

QUESTIONER: Good morning. I'd like to have your assessments on emergent markets like Brazil under this scenario, optimistic scenario for the financial markets, especially in Brazil that the economy is picking up now.

MR. HÄUSLER: First of all, I will answer your question as much as I can, but I want to share some of the questions ultimately with my colleague and have him work also a little bit.

[Laughter.]

MR. HÄUSLER: Let me just say that Hung Tran to my right is the Chairman of the Editorial Committee of the report, so he knows the report much better than I do, anyway.

But just to answer your question about Brazil, obviously we are not going to hear and in this session go into details about specific countries, but I think it is clear that—two remarks. It's clear that the situation as we had it last—the autumn, the fall of 2003, when we had extremely hyper-low interest rates and enormous liquidity in the mature markets, that this was over time unsustainable and incompatible with the world economy that started to pick up in terms of growth. So such sometimes indiscriminate low yields and low spreads, as we saw them—and we all knew that—was not sustainable. So a certain pick-up in yields was just plainly necessary.

On the other hand, we have seen earlier this year, as I indicated, that the change in the interest rate environment and expectations, especially in the United States, while it may have had a short-lived spiking effect on emerging market spreads in April and in May, earlier this year in 2004, things have come down significantly. And what we find very positive is the fact that investors, unlike in late 2003, are discriminating between good risks and bad risks—or not so good risks, I should say. And, hence, they are conscious of the risk, but at the same time they're not risk averse in terms of a stop and go as we had it in 2001 and 2002 where we had this, what we call in our department jargon, "the feast and famine syndrome."

So that is a long way of saying that I think Brazil is being rewarded for its good policies in the past and has benefited not only from the—not only benefited from the growth, the additional growth of the world economy, as we all know, but has also benefited from benign circumstances in capital markets and has done a lot of—you know, has used the time wisely. Just one factor, of course, is the reduced rollover rates of forex-linked debt and has, hence, reduced its dependence on the exchange rate.

MR. MURRAY: The gentleman in the center of the room.

QUESTIONER: Thank you. I see a reference here on risks to global geopolitical risks, including major terrorist attacks. What about poverty? And I'd like to direct also this question to Latin America and Brazil. What about poverty? Do you consider this a geopolitical risk for financial stability?

MR. HÄUSLER: I'm afraid I have to take this question myself. You have to accept the working parameters of this report. We are looking at financial risk as it could materialize in the next six, 12 months, and poverty is a very important issue, especially here for the two Bretton Woods institutions. There's no doubt about it. But I think in the short term there is no direct impact on the stability, or lack thereof, of the financial system.

So what I'm trying to say is while it is an important issue, I don't think it will have short-term implications for the kind of vulnerabilities that we look at.

But let me just finish up to make it crystal clear, this is not a—this sentence is not a sign of indifference of capital markets people like myself or my colleagues towards poverty. It is just that we are—within the working parameters, we don't deal with this issue as much as you might think.

MR. MURRAY: I'm guessing we have another Latin America-related question coming up here on the left.

QUESTIONER: The report states—talking about Latin America—that in the case of Mexico, the banking system has been gaining strength...

MR. HÄUSLER: Sorry?

QUESTIONER: ...has been gaining strength. I would like to know if you can, you know, develop further what are the causes that can we attribute this strengthening into the banking system? And what is the forecast for the short term, especially since things in Mexico seem not to be very good, at least in a couple of months?

MR. TRAN: The analysis and assessment we have there covers the banking system in emerging markets in general. So what we tried to present is a very high level assessment of where the strength of the different banking systems have panned out in recent quarters.

In Mexico in particular, we noticed that the banks have strengthened, mainly because of better economic activities and better business conditions. So we don't really go into forecasts for each individual country cases. But overall, our assessment is that in addition to a very strong movement in the balance sheets of banks and other financial institutions in the mature market countries, many banking systems in emerging market countries in the past six months have improved as well.

MR. MURRAY: We'll take the lady over there at the right.

QUESTIONER: I'd like to ask you a little bit more about the impact of oil prices. It doesn't seem that you're too worried about that on the financial markets.

MR. HÄUSLER: I'll start and Hung Tran may follow up.

Oil price has many, many aspects to it. Things have changed in the oil market. There is no doubt about that, and maybe Hung Tran should say a word when I finish on the role that financial institutions meanwhile play in the oil market more than before. And also I want to draw your attention to a special little feature that we have towards the end of Chapter II on energy trading as such. It shows you—the fact that we have a couple of pages on energy trading in a Global Financial Stability Report shows you that this—the connectivity between the two, the energy market on the one hand and the financial system has strengthened. You have more—again, I think Hung should say a few more words.

But on the oil price as such, there is obviously—at least in my mind, no direct impact, no direct bearing of an oil price that is above expectations and above what the assumptions in most macro forecasts have. There's no direct link, and an oil price of $40 or above, you can't say this reduces financial stability. So the impact would run through the real economy. If the oil price were to depress macroeconomic activities by very significant margins and through a number of other logical steps and would, you know, reduce the quality of loans and would reduce the top-line revenues of financial institutions, ultimately over several steps you may make the point that the oil price could reduce the stability of the system. But you would have—the argument would run several steps ahead. And given what I was trying to say, given, as I see it, the resilience, the considerable strengthened resilience of the financial system, I cannot see how an oil price, as we have it now, could undermine the stability of the financial system anytime soon. Notwithstanding the fact that we would all like to see the oil price somewhat lower in the context of the macroeconomic activities. But we should also bear in mind that if we talk about the oil price today in inflation-adjusted terms, it is still, you know, much lower than the oil price that you saw in the late '70s and the '80s, and you also—I am sure you will hear more about that in the context of the World Economic Outlook, and I don't want to steal their thunder. But I just wanted to use this occasion to tell you that also oil efficiency has increased.

So there's a number of reasons to believe that the oil price is not necessarily a detrimental effect. Maybe Hung Tran should say a word about the role of the financial sector activities in the oil market.

MR. TRAN: In Chapter II of report, there is a special section on the financial energy trading markets. Basically, our feeling is that we are at the moment at the beginning of a structural change in the energy markets, particularly with the coming on stream of very strong and new demand from many Asian countries, particularly China, India, and other East Asian countries, representing a step increase in the demand for energy. And, therefore, the blossoming of future and options market for energy products, including oil, gas, and electricity, I think is a very timely development.

If you look at the market, the volume and instruments have increased significantly over the past year. The number of participants, particularly non-traditional participants, in these markets—hedge funds, pension funds, institutional investors, investment banks, and so on—have also increased. That aspect was the foundation for Gerd's statement that from a financial stability point of view, we think the authorities and ourselves included should pay more attention to the exposure of the financial institutions to this volatile market instrument.

If you look at the section of that report, in our report, you see that the volatility for these contracts for oil and gas are very much higher than the volatility for traditional financial assets. That is one aspect.

The second aspect is that if you look at the exchanges for energy future and options contracts, the commercial users, the traditional real commercial users of these markets, the companies that use energy, produce energy, more or less maintain their relative share of these markets, and that says to me that the development of these markets really meets a need for more hedging instruments and more hedging liquidity for the real users of energy in the economy. And, therefore, overall we think it is a positive development, but it warrants close monitoring by the official sector.

QUESTIONER: I'd like to know what you think. The Argentinean Government claims that in spite—that the restructuring of the debt process hasn't really started, there is some investment in Argentina. I would like to know what do you think about that.

And, second, how do you see the process of the restructuring of the debt going forward without the IMF—with the IMF negotiations suspended on the Third Review? What should be in your opinion the threshold? So you could declare that the process is—the participation threshold, that the process should be successful?

MR. HÄUSLER: These are all very interesting questions, but given that my good colleague Tom Dawson is on the road today—he's in London, I believe. And I'm sure he'd be delighted to answer all these questions in great detail once he's back.

MR. MURRAY: Yes, this is the Global Financial Stability Report briefing, so we'll limit questions to the focus of the report.

MR. HÄUSLER: I fully understand. Trying is okay, but answering is not okay.

[Laughter.]

QUESTIONER: Recently, the World Economic Outlook in the last issues was alerting for the risk of the collapse of real estate prices. In this report, you have not shown much worry about that, and you even mentioned that most of mortgages are hedged. So I would like to know if the IMF thinks there's no risk of this collapse of asset prices.

The second question regards two banking systems that show problems, in Russia and in China. Recently, the IIF said that the IMF needs to assess banking crises earlier. So I would like to know why—aren't you worried with these banking systems and what do you think should be done in these countries?

MR. HÄUSLER: Both questions are entirely relevant, and maybe we will have a division of labor again here. I will say a few things, and Hung can pick up from there.

First of all, on the real estate, let me differentiate between the real estate and the housing retail real estate market, which, of course, is a very relevant—given what I said about the exposure, the increasing exposure of the household sector to financial risk, I was not thinking of the household sector, but that comes on top of that. And this is clearly something we'll look at in the next report very closely.

It's hard to say whether real estate prices are overvalued, and one of the big, big questions, to which I think nobody has a true answer, except maybe my colleague on the right, is what is the sensitivity of the household sector to interest rate hikes. And I think the answer to how sensitive the household sector may react to that will depend from country to country. It has a lot to do—and Hung will say that in a moment—you know, with how the mortgage market functions in terms of interest rate risk.

The other point that you mention is what you called the collapse of the mortgage market, or something along those lines. That is something different. The question is whether in the secondary market, in the market for mortgage-backed securities, which is a huge market especially here in this country, in the U.S., whether those intermediaries, especially those who issue such debt and who have to protect themselves against prepayment risk, whether this is a—whether you could have risk, as we highlighted in previous GFSRs, what the jargon is called "convexity risk," and Hung can—the short answer is we don't see this as a problem. The first issue we see as a potential problem, but not the second one because prepayment risk is so low.

One quick word on Russia and China. You have to understand that—number one, you have to be very careful about what you say about the banking system. It's easy for the IIF to say the Fund should, you know, say publicly something. I think there's still a merit in advising governments privately, our shareholders and membership advising them privately what we think.

Number two is we are doing Financial Sector Assessment Programs, the so-called FSAPs, in a number of countries, and this is voluntary. By and large, the publications are being published. So we are saying something anyway.

And besides, I think specifically on Russia, these developments are quite fluid. You know, it's hard to say where we come out. So one has to be careful not to be overtaken by events. And as much as I remember—and maybe my colleague from the Press Department can help me. As much as I remember, earlier this week our First Deputy Managing Director was in Moscow, and she had a press conference there, and I think she said a few things about Russia in general and the Russian banking system in particular.

MR. MURRAY: Yes, Anne Krueger had remarks earlier this week, and we'll get you—a transcript is being prepared.

MR. HÄUSLER: Hung, you probably can follow up on a number of points here.

MR. TRAN: Just very quickly on the housing market, you mentioned the World Economic Outlook publication. It is basically a division of labor between ourselves in the Global Financial Stability Report and the WEO, as we call it in the Fund. They looked at the housing sector, and they came to the conclusion that even though house prices in some countries—U.K., Australia, maybe Spain, in the U.S.—might be high, but they conclude that the risk of a significant decline near term is not very real at the moment.

Of course, it is something that the relevant authorities are taking note of and trying to address, at least the pace of further increases in house price. So we take it from there, and, therefore, in our financial market assessment, we begin from that starting point.

MR. MURRAY: Let me add a footnote to Hung's remarks. The World Economic Outlook is going to be released in two parts. The first part will be released next week to the press. There is an essay, as Hung mentioned, on global housing assets, and it is a fairly detailed analysis. Raghu Rajan, Gerd Häusler's counterpart in the Research Department, will be doing a press briefing a week from today, a telephone conference briefing. We'll have details on that after this wraps up.

QUESTIONER: I have a question regarding Argentina but from a more global perspective. On page 26 of your report, you said that Latin America has had, for the third quarter successive, a negative net issuance in the region. Could you please tell us what is the reason for that assessment and if Argentina is playing a key role during that?

MR. TRAN: That's referring to basically the gross and net issuance of bonds by emerging market countries in general and here in Latin America. Let me give you some background to it.

On a gross basis, meaning new issuance by either sovereign borrowers or corporate borrowers in emerging market countries, so far this year on an annualized basis we have about $240 billion all told—issuing of bonds, issuing of new equities, and also syndicated loans. And that is about a 40-percent increase over the gross issuance volume of 2003. Thus, on the gross basis, there is a lot of increase in private sector capital flows into emerging market countries.

However, on a net basis, that is, subtracting amortization and payment, final payment of debt, and on a regional basis, Latin America continues to have negative flow. In other words, year-to-date and not annualized, just year-to-date, Latin America shows about $5 billion net outflow or negative flow. And that just represents the structure of the debt in many Latin American countries with very heavy amortization schedules for this year. And, of course, that is what is happening.

MR. MURRAY: Okay. I'd like to take a few more questions, and let you—a follow-up?

QUESTIONER: Yes, a follow-up. Would you please mention the role of the Argentina crisis in this situation in Latin America.

MR. TRAN: Argentina doesn't feature in these statistics because they neither borrow nor pay nor have anything to do with international capital markets so far this year.

MR. HÄUSLER: They're net neutral. They neither pay back nor do they issue bonds, so they are neutral. But overall, I mean, if you want an assessment on this, the fact is that some Latin American countries outside Argentina—I leave out Argentina outside—are highly indebted, as you know, the debt ratios. So some of that net repayment I think is not negative, to say the least, which gives me an excuse to draw your attention to Chapter IV of our report which deals with the fact that over the last couple of years in general, that is, beyond Latin America, the emerging market world as such has had net flows away from—net outflows away from emerging markets towards the industrial markets, somewhat against the textbooks, if you like. And we analyzed in great depth the reasons behind this and whether or not this is a temporary phenomenon or this is something that may be here to stay. You may want to have a look at this particular...

MR. MURRAY: Okay. Let's take a few more so we can get everybody back to their offices to file. The gentleman in front here?

QUESTIONER: I have another question about Argentina. The health of the banking system is an important issue there, and I wonder if you could give me your assessment of the situation and, you know, any suggestions on how to strengthen it.

MR. HÄUSLER: I'm tempted to answer, but I will resist the temptation. Look, there's no point in me—we're talking about global financial stability, and you all know that Argentina is a specific and a delicate case, and I'm not going to use this press conference to get myself fired.

[Laughter.]

MR. MURRAY: The lady up in the front—or the back of the room, please?

QUESTIONER: We know that China is a rapid changing economy, and right now the government is taking measures to cool down its economy. Recently it says that the pension in the future—the pension fund may not pay off or it will be a significant difficulty, and their inflation and interest rate might rise. What kind of impact where things happen in China you will see that might have a significant impact on global financial stability in the future?

MR. HÄUSLER: If the future is a—

QUESTIONER: The next five years.

MR. HÄUSLER: If the future is the next six months, I would say not very much. If the future is 20 years, the answer would be quite different. I think so far at this moment in time, the Chinese financial system, the banking system or the pension system, to the degree there is a pension system, actually—it's only emerging slowly. The same is true for the insurance system. So far this has rather ring-fenced and contained any problem. I mean, I'm not giving away any secret. The market assumes that the largest banks are basically underwritten by the government anyway. So whatever difficulties they may have, this is contained.

But going forward some years down the road, this will change, and in the same way that the Chinese economy, the real economy has a strong impact meanwhile on the rest of the region, the rest of Asia, as we all know, ultimately this will be true for the financial system, but only at a time when the capital account will be more open and at a time when the interactions between the financial system in China and the rest becomes more pronounced.

I think the pension system in China is a slightly different issue. The Chinese, while having a very dynamic population, will be faced to some degree with the same phenomenon that you have in the Asian societies and in Europe, for instance, where people become older and where this pay-as-you-go system ultimately will yield enormous drains, and the Chinese I think are well advised to think about this early. This is why this Chapter III that we have here on the pensions is not just—how should I put this?—an academic piece for Europe or some of these—it has—it has a number of lessons, I think, that you can transform to the emerging market world.

MR. MURRAY: Again, the back of the room.

QUESTIONER: You just alluded to the oil price. I'm sorry, I haven't had a chance to read the book yet. But is there any discussion at all about, you know, what we used to call recycling of petro dollars and how that might change the stabilities of the financial markets?

MR. TRAN: No, we haven't looked into that, but that is a subject that as we see more manifestations of that in financial markets, financial prices, and capital flow, we will report on it when we have more evidence. But, of course, if the oil-exporting countries accumulate more current account surpluses thanks to their higher oil prices and rising exports, the question naturally arises as to what will they do with the proceeds that they accumulate.

MR. MURRAY: I'd like to try somebody new, but any—okay, back to you. And then we'll—

QUESTIONER: This is not an Argentina question either.

My question is—I'm trying to get my head around this. In the past three years since the tech bubble, you've got increased security, you've got high interest rates, you've got an oil price that's higher. Would you say—and yet the markets are still as resilient as you've seen them. Would you say that it's due to this improved risk management that—is that the main driver that's going to keep everything together? Or is it the economic recovery that we've seen? What is really keeping this all together?

MR. HÄUSLER: If I only had five seconds, I would say the economic recovery, if I only had one, because the economic recovery drives ultimately the loan loss provisions. The loan loss provisions, the sharply decreased default rates of corporate bonds by definition is all a function of an economic recovery, and, of course, also by management of the companies to repair their balance sheets in the corporate sector.

So I would not single out one factor. I gave you a—remember I gave you a number of—a laundry list early on. It's a very steep yield curve which we've had which has allowed financial institutions to earn money, borrow short and lend long, which is a carry trade in essence. And you have corporate customers which have low default rates, and you have all the points in the statement that you have. So it is, I think—and in some cases, as I said, the banks—or, rather, insurance companies have been recapitalized. Some of the European insurers simply went to the market and took in new capital.

And so this all in all, all these factors taken together give us sort of this rather positive assessment.

QUESTIONER: Would you say that the geopolitical risks are probably the biggest risk at the moment?

MR. HÄUSLER: Well, the geo—to use jargon again, banks know how to price risks. They hate something they don't know how to price, which is uncertainty. And geopolitical events not only if but also if so, what and the magnitude of all that is uncertainty. It's always there, but you just don't know. It's very difficult to prepare yourself, I mean, in terms of yield curves. Therefore, I think this is—but, again, we don't know how to — [inaudible].

MR. MURRAY: The gentleman in the center. I think that will be the last question.

QUESTIONER: Okay. Thank you. I'd like you to comment on what you think the impact of high oil prices is on the financial stability of emerging market oil-exporting countries such as Russia.

MR. TRAN: I think that for exporting countries not only of oil but other commodities, for example, soybean in the case of Brazil or Argentina, higher prices for those commodities would be very beneficial for those countries. And, therefore, if you look at the emerging bond markets of oil-exporting countries like Russia, for example, but other Latin American countries, they tend to perform well.

Of course, the opposite is true for oil-importing emerging market countries and particularly those which already have a high level of indebtedness and have weak public finances. Those countries are quite vulnerable. We point it out in the report and also in the written statement. And, therefore, like Gerd said before, we urge those countries to use the current opportunity of benign capital markets to put their houses in order.

MR. HÄUSLER: Let me say something about the oil exporters, though. There's one concern I have, when there's a perception that the oil price may stay above the recent average for some time to come, let's say, just to make matters—let's say there was an expectation that oil price may stay above $30, or even higher, for quite some time to come. There is a temptation for oil-exporting emerging countries to become complacent in other macroeconomic policies because obviously the oil revenues pay so nicely for each and every thing. So we would—and that goes way beyond the realm of this report. We would strongly encourage these countries not to take the oil revenues for granted forever, and, you know, where necessary and to the degree advisable, pursue sound macroeconomic, including fiscal policies that don't necessarily rely on a high oil price going forward, because as you know, oil prices sometimes may go down again, especially at a time when investments in the oil industry may all of a sudden become significant again; you know, a different price level makes it possible and profitable to invest in oil drillings again.

MR. MURRAY: I think we're running out of tape here. Thank you all for coming. Again, the embargo is 1500 GMT, 11:00 a.m. Washington time. If you do have any follow-up questions, if you get into the text and you see something that you want to raise, please drop me an e-mail at wmurray@imf.org. Again, wmurray@imf.org, and we'll be happy to chase an answer for you. Thanks for coming.

[Whereupon, the press conference was concluded.]




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