Transcript of a Press Conference on the International Monetary Fund’s Global Financial Stability Report
April 13, 2011with José Viñals, Financial Counsellor and Director of the Monetary and Capital Markets Department,
Robert Sheehy, Deputy Director of the Monetary and Capital Markets Department,
and Peter Dattels, Chief of the Global Markets Monitoring and Analysis Division
Wednesday, April 13, 2011
Mr. Murray: Good day. I am William Murray, Chief of Media Relations at the IMF.
This is the spring edition of the IMF's Global Financial Stability Report. . I want to welcome everyone watching via our webcast and via the Online Media Briefing Center.
Let me introduce our participants. Joining us today is Jose Viñals, who is Financial Counsellor of the IMF and Director of the Monetary and Capital Markets Department. With José is Robert Sheehy, Deputy Director of the Monetary and Capital Markets Department; and Peter Dattels, who is Chief of the Global Markets Monitoring and Analysis Division of the Monetary and Capital Markets Department.
José is going to have some brief opening remarks. We are going to make those remarks available to you at the conclusion of this press conference. We will take your questions after José opens.
Mr. Viñals - Thank you, Bill, and good morning to you all.
The title of our report is Durable Financial Stability, Getting There From Here. As the title suggests, we are not there yet, so what I am going to do in what follows is to focus on three key issues. The first one is where we are now concerning global financial stability; second is what financial vulnerabilities confront us; and third is what are the policy actions that are needed to achieve durable financial stability in both advanced economies and in emerging markets. So, let me start now with describing the present situation.
Let me start by giving you the good news. The good news is that financial stability risks have eased mainly because of two factors: first, because of the improving economic outlook; and second, because of the continuing accommodative policies that have been pursued. The not-so-good news is that these supportive policies, while necessary to restart the economy, have also masked serious underlying financial vulnerabilities that need to be addressed as quickly as possible.
Specifically in the case of advanced economies, many of these countries are living dangerously because the legacy of high debt burdens is weighing on economic activity and balance sheets, and keeping financial stability risks elevated. At the same time, many emerging market countries risk overheating and accumulation of financial imbalances in the context of rapid credit growth, increasing asset prices, and strong but volatile capital inflows. In this GFSR we lay out a roadmap for policymakers to address these vulnerabilities and risks, and achieve durable financial stability.
Let me turn now to elaborate a little bit more on the key vulnerabilities and challenges that put financial stability at risk. I am going to single out the following four areas: banks, sovereigns, households, and then I will talk about emerging markets more in detail. Let me start with banks.
I think that you will agree with me that nearly four years after the start of the global financial crisis, confidence in the banking system has yet to be fully restored. Now, why is that so? I think it is because progress in strengthening capital positions and reducing leverage has been uneven; because there is considerable uncertainty about the quality of some bank assets, particularly exposures to higher risk sovereigns and real estate in some countries; and also because a weak tail of undercapitalized banks remains. We have analyzed the sample of banks that European authorities used in last year's stress tests. This snapshot of end-2010 data revealed that 30 percent of these banks representing a fifth of their total assets have core Tier 1 capital ratios of less than 8 percent.
Now, 8 percent is not a regulatory minimum in many countries, but it is the market's bar, what markets are applying in order to provide cost-effective funding to banks. What this means is that all these banks that I just mentioned are less able to withstand shocks and also less able to secure cost-effective funding as a result of having capital ratios that are below 8 percent core Tier 1.
Now, to solve these problems we need comprehensive policies to increase bank transparency, to raise capital buffers, and to restructure and to resolve weak banks. Let me emphasize that restructuring and resolution are two concepts and two policy tools that have not been used in the crisis as much as they should have.
The forthcoming stress tests by the European Banking Authority are an important opportunity to assess the health of the banking systems in the European Union, but the tests need to be credible, stringent, and part of a broader crisis management strategy that includes backstops against capital shortfalls in those cases where the money cannot be raised in the market.
Let me turn now to sovereigns. Sovereign balance sheets remain under strain in several advanced economies. Certain countries in the Euro Area are especially at risk because market concerns about the sustainability of public debt have prompted a sharp increase in funding costs and a restriction in credit supply which, in turn, has created an adverse feedback loop with the real economy. These financial stability risks need to be addressed through strategies that combine medium-term budget deficit reduction with adequate, multilateral backstops for crisis countries.
But sovereign funding challenges could extend beyond the Euro Area, and both the United States and Japan are sensitive to higher funding burdens if interest rates increase substantially from current levels. Consequently, these countries, too, need to take decisive action to ensure the sustainability of their public finances over the medium term.
Let me turn now to households. Household indebtedness in the United States remains elevated. This could negatively affect bank balance sheets, credit availability, and house prices. Moreover, this could be a drag on the global economic recovery.
More structural policies may be needed to address high household debt, including principal write downs on mortgages. The majority of U.S. household debt is in the form of mortgages. Our assessment shows that U.S. banks are sufficiently strong to withstand sizable reductions in the principal of risk mortgages.
Let me go now to emerging markets. Policymakers in emerging market economies need to guard against overheating and the build-up of financial imbalances. We are observing that there are a number of factors that point to the incubation of financial imbalances, and there are mainly two.
The first one is the exceptionally strong bank credit growth in some countries. This is very relevant because experience shows repeatedly that there is a close connection between high credit growth today and increases in nonperforming loans tomorrow.
The second factor is the presence of strong and volatile capital inflows. Capital inflows into emerging markets are not yet excessive, in our view. But recent volatility has already tested the absorptive capacity of some emerging markets.
Let me now talk a little bit more about what the key policy priorities are in order to achieve durable financial stability. In our view, what needs to be done on the part of advanced countries is to deal with the legacy of the crisis—effectively and immediately. This means that they must reduce their reliance on policies that mainly responded to the symptoms of the crisis and increasingly focus on structural measures that address the underlying causes of the crisis. This means, in particular, that they need to fully repair their banking systems, strengthen sovereign balance sheets, and reduce household debt burdens.
By contrast, emerging markets need to act—before it is too late—to avoid future crises. Given the risk of overheating and financial imbalances that I have just mentioned, what policymakers in these countries need to do is to make more and better use of macroeconomic measures such as interest rate hikes, more exchange rate flexibility, and tighter fiscal policies and, of course, accompany them by macro-prudential measures and, where needed, by capital controls. Remember that these measures should not be a substitute for, but rather a complement to, more and better macroeconomic policies.
Of course, a safer global financial system cannot be created unless we have better and internationally consistent regulation. Advanced economies and emerging markets have, thus, a shared responsibility to press ahead with regulatory reforms.
Let me conclude. Given the challenges ahead, there is a very real risk of complacency, of fatigue, or reluctance to make hard policy choices. Nevertheless, as I have tried to explain, action is needed now to ensure that the outstanding threats to global financial stability are dealt with once and for all, and that this is done through international cooperation. To be clear, the global economic recovery will be on firmer ground only if we achieve durable financial stability.
Mr. Murray: Thanks, José.
We are now going to take some questions from the audience and then go to the Online Media Briefing Center.
Question: A two-part question, really. The first one is, are you concerned that the problems in some of the Eurozone countries—in particular Ireland, Greece and Portugal—might spread to one of the bigger countries, Spain, where some of the banks seem to be in some difficulty and there is very heavy property lending which has not been properly accounted for?
Secondly, is there any fear now that somehow global financial cooperation has slowed down? I heard Gordon Brown, the former British Prime Minister, on television this morning suggesting that people are taking national routes and the global approach to these problems, the global momentum has slowed down.
Mr. Viñals: On your second question, I think that what is important is to maintain the momentum. I think that it is natural perhaps, but not desirable, that as the economic recovery gathers strength and becomes more consolidated, that people fall into complacency. We should not fall into complacency, thinking in advanced countries that, well, the remaining problems are going to be taken care of by the economic recovery, or in emerging markets that problems are not going to happen to us, that this time it is going to be different. I think that this would be falling into complacency so this should be avoided. For that we need more international cooperation. As we have in the theme of these meetings, global challenges require global solutions, and we still have important global challenges.
On your first question of whether there is a chance that the problems in Ireland and Portugal may extend to Spain, I think that the actions that had been taken in Spain recently have managed to decouple, in the views of markets, the fortunes of Spain relative to those of Portugal or, even more, Ireland. So, I think we are talking about completely different cases.
Policy action has been taken in the case of Spain in the context of fiscal consolidation, in the context of the restructuring and the recapitalization of the caja sector, and also in terms of reforms. Of course, I think what is very important there is that you need to gain market confidence day by day. Therefore, you have to continue going in this direction and having the degree of ambition which is necessary in order to continue having markets on your side.
So, I think that if things go as they have started in Spain, and we have no reason to think that this would not be the case, we will not have—I repeat, we will not have—Spain swamped by the problems that have been affecting the other two countries that you mentioned.
Question: You said in your introductory remarks that 30 percent of the banks had core Tier 1 capital of less than 8 percent. You also talked about overcapacities and the lack of restructuring and dissolving banks. How much of that 30 percent would you think is part of the overcapacity and should perhaps leave the market because they are not viable?
Mr. Viñals: Well, I think that you have different situations. Of course, this is something that requires a much deeper analysis that the national authorities should do in each case because they have the best information on the specific situation of their banks. I think there may be banks in some countries in Europe whose business models are not viable and, therefore, should no longer be there, and others that would be viable only if they become part of other groups so there is a need for restructuring, merger, acquisitions. There are others who just need to keep doing what they are in the way they are, but need more capital in order to inspire more confidence on the part of markets.
So, I think that there may be a little bit of everything and it is up to the national authorities to give the answers. They will have an excellent opportunity to do so on the occasion of the second round of stress tests which are now under way.
Question:- You talk about the restructuring of the cajas. I would like to know a little bit more your view if that restructuring, becoming commercial banks, all those mergers, are the right way to go. What is going to happen with some cajas that are still in trouble, like the CAM? Also, what will happen if in those stress tests that are going to be halted in June the results for Spain are less than expected by the market?
Mr. Viñals: Well, without entering much into detail, which I think is not my role here, I would say that the process of restructuring, except for the case that you have mentioned of CAM, is well under way. There is a clear strategy and all of this is on track. The important thing is to basically continue implementing swiftly whatever is needed to conclude this restructuring.
You have mentioned CAM. My impression is that there is always the possibility of going to the FROB in order to get the resources that you need if you cannot get those resources from other private investors in the market or from some other merging process. But I think this is not a surprise. This is precisely what is contemplated, and I do not have anything to add.
On the stress tests in June, let me not anticipate the results and just hope that these stress tests for the European Union would be sufficiently credible, ambitious, and stringent, that they would be embedded in adequate follow-up strategies in order to recapitalize, restructure, or resolve those banks that need to be going along this route. It is very important to have adequate backstops at the national level and at the multilateral level in Europe in order to have these actions following the stress tests in place as soon as possible.
Question: (in French) Thank you. I would like to ask two questions.
First of all, is there a link between financial stability, global financial stability and the stability of the commodities market, particularly since commodities have seen a lot of fluctuation in the last four years and in some countries that has led to high debt levels and has affected household budgets?
Second question. In view of the developing countries' financial situation, what are your recommendations for these countries?
Mr. Viñals: Let me just say something and then my colleagues can complement.
In terms of the linkages between global financial stability and commodity prices, I think that so far what we have seen is an increase in food prices and in energy prices which is of a certain size and the question is what would happen if we were to have much higher increases.
Well, if we had much higher increases, certainly this will have an impact on global inflation and on global economic activity, and this would lead to monetary policies reacting. When you have monetary policies reacting, these would have consequences for the pricing of financial assets, and this would have a repercussion on the value of assets that households have and also that financial institutions have. I think that this is something which is beyond the central scenario that we are contemplating.
There is another issue which has to do with the financialization of commodity markets and the extent to which commodity markets are more and more used as an investment vehicle. This is something which is part of a global reflection that has been entertained now in different fora, including also the Financial Stability Board as part of the G-20 agenda, and this is something that is worth watching.
Mr. Dattels: Just a comment on the links to financial stability. Clearly, if we do have a more rapid increase in advanced economies in terms of an interest rate response to pressures, that would also potentially put pressure on the Euro Area periphery in terms of its adjustment and its ability to withstand bond market financing-type shocks.
I think the second element is that we put quite a bit of accent on overheating in emerging markets. As Mr. Viñals mentioned, the need to catch up, to get ahead of the curve to ease inflationary pressures to the extent that they have a potential risk of second-round effects would require a quicker response in terms of monetary policy in emerging markets.
Mr. Sheehy: Just to add one further comment on the general developing country issue that you mentioned. I think developing countries for a long, long time have always been subject to the way the wind blows in the international financial centers and until now there is no difference and those winds are blowing perhaps even stronger than they have in the past.
I think the main thing that the countries, the less developed countries have to do is basically pursue good policies on their own front. You know, basically what they have to do is do their own homework first, make sure their house is in order, and that will make them stronger to deal with these. Unfortunately, these winds blow and countries have to react, but that is not a new thing.
Question: Could you please give more details on the market situation in especially Russia, Ukraine, Kazakhstan and Belarus? Are they are going the right way?
Mr. Dattels: In terms of their policies, I think the kinds of focus that we have had on emerging markets in the report, particularly on the corporate side, what we see in terms of a moderate build-up in leverage, in the case of Russia we think those levels are still quite moderate so we do not see particular strains in that context. I am not sure whether that fully answers your question.
Mr. Murray: Are you looking for a status report on the financial systems in Ukraine, Russia, etc.? It is sort of a health check question?
Do you have anything to add on that, Pete?
Mr. Dattels: In the context of capitalization on these economies, emerging markets have, including in Russia and the Ukraine, been adding significant capital to their banking systems. Because they have experienced quite a crisis together with the Lehman shock, they had to step in and strengthen their capital positions. So, at this point I think they have responded to the crisis and they are moving on the right path in the context of the stability of their banking systems.
Question: You said that the US is sensitive to higher funding given the debt situation. Is that something you also consider a realistic market reaction?
Mr. Viñals: I think that, fortunately, for the United States, it issues the main international currency. Its dollar-denominated assets and U.S. Treasuries are highly demanded by many central banks as they manage their foreign exchange reserves. So, I think that this is a very important factor that sustains the demand for Treasuries.
But I think it is very important that we keep it that way in the sense that you continue having confidence in the Treasury bonds issued by the main economy of the world. For that, you need to continue doing whatever it takes to put your fiscal house in order. This is a message that was given yesterday during the press conference on the Fiscal Monitor.
Let me reiterate that our analysis is from the point of view of funding. What our analysis shows it that the U.S. and Japan, given their high debt levels and their low revenue-to-GDP ratios, relatively speaking, are very sensitive to increases in interest rates. So, it is very important that confidence in U.S. Treasury bonds is maintained, and for this you need appropriate fiscal policy actions so that they do not cross the threshold that markets regard as necessary to continue maintaining this confidence.
So, that is just reinforcing the message that credible medium-term fiscal consolidation in the United States and in Japan, for that matter, are of the essence for these countries and also for the health of the global economy and financial system.
Question: I would like to know your position about the possibility of senior bondholders to pay part of the restructuring the banking sector and I am especially interested in the case of Ireland. My second question is about the timing. I would like to know, coming back to the cajas and to the Bank of Spain, if you think the Bank of Spain has acted in the appropriate momentum or maybe a little bit late.
Mr. Viñals: On the issue of the senior bondholders, as you know, there is a commitment on the part of the Irish authorities that debt would be repaid. The program that we have put in place in Ireland, a program that has a very important financial component as compared to a fiscal component and a structural reform component, is in our view essential in order to honor all the commitments made by debt holders both in the public domain and in the private sector. There has been some debt restructuring in Ireland concerning junior bank debt, but in terms of senior bondholding the situation is different and we have no reason to think that these bonds would not be repaid in due time.
Another issue, which is a very different one, has to do with the consideration which has been given now in terms of international regulation to what is called the bail-inable debt, which is that in the future, in terms of regulation, particularly to deal with the problems posed by systemically-important financial institutions, there is a thought that some form of contingent capital or bail-inable debt may be used to be converted into capital in order to increase the loss absorption capacity of systemically-important financial institutions, but this is a completely different thing which has to do with the design of the new regulation.
Concerning what you mentioned in Spain, let me repeat that we think the national authorities are taking the appropriate decisions. What is important is to persevere and to implement them as rapidly as possible in order to continue benefiting from market confidence and we have no doubt that this will be the case.
Mr. Murray: There are a number of Spanish journalists here in the room. I am going to take one more question from the Spanish press corps and then I am going to try to expand a little bit. The gentleman traveled a vast distance to get here, so I call on you.
Question: Actually, it is not a question about Spain. It is coming back to the Eurozone and what seems to be a taboo subject, although it is pretty much ever present when journalists interview independent economists. I have three questions I want to ask you about on the probable restructuring of Irish, Greek, and possibly Portuguese debt.
One is whether the stress tests in the European banking sector would suggest that the big German and French banks that are exposed to Irish, Greek, and Portuguese debt will be able to withstand a restructuring of that debt; secondly, whether you think that, if and when that occurs, it will be positive or negative for Spanish debt.
Thirdly, just on the issue of bail-inable debt, which I understand is part of the transition to a European Stability Mechanism, one of the areas of that will be the bondholders will have to take a haircut in the event that debt is restructured. I wonder whether you think that that could be a problem for peripheral Eurozone countries like Spain when they are trying to issue debt given the fact that bondholders will know in the event there is restructuring they will have to take a haircut.
Mr. Viñals: Let me just say the following. I think that the programs that we have in Greece, in Ireland are programs that are there precisely to help the countries cope with the problems that they have and these programs have been built on the assumption that there would be no debt restructuring. This is an assumption that we have now and this is an assumption that we continue to maintain today. Of course, it is very important that the countries under programs and those who are not under programs but have to take very important policy measures in the future, like Portugal, implement these measures in a decisive manner in order to maintain market confidence.
These programs work over time so we have to give them proper time for these programs to work. As they work, what we will be seeing is that the spreads will be hopefully coming down. Interest rate dynamics would be better on their public debt. Therefore, our expectations would be realized.
But let me recall that, for this, one would need a very strong implementation of the programs. On the basis of this, let me not speculate on "what would happen if" but rather let us make sure that we do everything that is in our hands from the viewpoint of the actions that these countries have to take in order for them not to have to confront the "what if" in the future.
The other thing has to do with the ESM proposal to include some sort of collective action clauses, the issues of debt, and of having some sort of private sector involvement in the future. I think that this is something which is natural in the future, but I think we need to deal with the problems that we have now. I think that the problem that we have now is to guarantee that the debt is honored and, for that, strong implementation of the programs is an absolute must.
So, I would not speculate on what would happen if there was a restructuring on the capacity of banks to absorb the losses, and so on, because our central scenario is that if countries do whatever is needed, and if the European Union also does comprehensive reforms that we have been sort of pushing for for some time, this is something that will result in a sort of good equilibrium where the more difficult options that you are alluding to can be avoided.
Question: A follow-up on the debt restructuring question in the Euro peripherals. You have said it takes time for these programs to have an effect on spreads, etc. We are now one year into the Greek program and other people from the IMF has said that the program is on track and the European authorities have said that the program is on track.
Have you formed an opinion as to why the markets simply do not seem to believe you and spreads keep going up in Greece as they are in Ireland, although Ireland is a much more recent program. For Greece, we have already been there for a year and spreads are actually going the opposite direction to what you mentioned. Do you have an idea why the markets just do not believe you?
Mr. Viñals: Well, I think that there are a number of reasons. Basically, what we know is that once you lose the confidence of markets or the trust of markets, it cannot be immediately regained. So, you have to work hard in order to regain this confidence and this is what the program in Greece is all about.
You have to show sufficient determination over a sufficiently long period of time, and the time that has elapsed has not been sufficiently long in order to regain market confidence. Again, as I said before, we have to let a bit more time pass and show that implementation of these programs is very strong. We are hopeful that market confidence will come back, not overnight but that it would come back over time.
Question: As we know, the BRICs meeting will be held in China and one of the important areas for cooperation is in the financial system. My question is, what do you think are important areas for cooperation for these countries and what kind of risks should these countries work together to avoid, like what you mentioned in your report, how they can guard against overheating and the build-up of financial imbalances?
Mr. Viñals: I think that there are several dimensions where the BRICs and emerging markets in general can contribute decisively through cooperation. In fact, they are already doing it. In the global sphere they are participating—the countries you mentioned, the BRICs—in the G-20. They are also members of the Financial Stability Board. As such, they are part of the discussion process which has taken place concerning the overhaul of the global financial system.
One thing which would be very important is that after there is agreement on the basic norms—and now we already have Basel III norms that have been agreed and there are more that need to come—once we have an agreement on Basel III, once we have an agreement on how to treat systemically-important financial institutions, how to address the risks posed by derivative markets, on how to address the challenges posed by the shadow banking system and we had an international set of regulations, that those regulations are applied in an internationally-coordinated manner by advanced countries and emerging markets within reasonable timeframes. So, I think that this is something that is extremely important in terms of cooperation in the financial domain.
In terms of what they need to do to maintain financial stability so that they can sustain their growth processes, which are also important to themselves and to the world, I think that they have to use, as I mentioned, more and better macroeconomic policies in the form of tighter monetary policies, in the form of fiscal tightening whenever this is required, and also letting exchange rates play a more important role. Of course, they have to supplement this with macro-prudential measures, and so on, but I think it is fundamental that these countries which have become so important for the global economy play their part in ensuring global financial stability.
Question: I had a question on Table 1.2 on banking vulnerability indicators. As for Italy, you said that capital ratios are in red for the sample that you are choosing for Italy that are five banks. Do you think that in a certain way this graphic, this table is old, as four of the five Italian banks have just declared that they want to raise their capital ratios to 8 percent?
Mr. Dattels: You are absolutely correct. This is a snapshot based on data at the end of 2010. What has been recognized now is the need to strengthen the capital position of Italian banks. We have seen some recent capital raises in the market. So, both the authorities that recognize the need to increase capital buffers to increase the quality of capital in the Italian banks' capital structure and the banks themselves seem to be getting the message.
This table illustrates that starting point. It tells us that they have some ways to go. Indeed, the comment that Mr. Viñals mentioned about the weaker tail of banks, less capitalized Italian banks are in that tail.
Question: Bank credit has been growing a lot in Brazil, especially in public banks. The central bank has deployed some actions to slow it down. Is it enough?
Mr. Viñals: Well, it will be enough if we see the growth rate of credit moderating, but we will have to see that first in order to see whether this is enough. I think that, in general, it is very important that one tackles macro-financial vulnerabilities with all the available tools and that you keep doing whatever is needed until you get the results that you seek. So, it is too early to tell. Whatever needs to be done should be done in order to keep credit growth within reasonable limits because, as I said, if credit grows very, very fast, then the probability is that you may have higher nonperforming loans in the future. This is something which has happened in many countries over time. So, in addition to these policies, it needs very careful vigilance also on the part of supervisors to make sure that the standards which are applied in the concession of the loans are as high as needed.
Mr. Murray: Thank you very much, Jose.
We will have video clips from this briefing on UniFeed and NewsMarket. If you have any follow-up questions—I know there are still more questions—please send an e-mail to media@IMF.org and we will try get them answered for you as quickly as possible.
Again, thank you Jose Viñals, Robert Sheehy, and Peter Dattels. Thank you all for joining us today.