IMF Survey: Safer Global Financial System Still Under Construction, Says IMF
IMF News, September 25, 2012
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- Published: September 25, 2012
Main findings and context
- Publication: IMF Survey online — September 25, 2012.
- Five years after the start of the global financial crisis, the IMF finds that “the reforms—although aiming in the right direction—have yet to create a safer set of financial structures” and that “there are still some difficult issues left to tackle.”
- The global financial crisis began in the subprime mortgage market in the United States, later spread globally, “triggered the worst global downturn since the Great Depression,” threw millions out of work, and forced public bailouts of a number of prominent financial institutions.
- The IMF analytical chapter in the Global Financial Stability Report is titled “An Interim Report on Progress Toward a Safer Financial System.”
Assessment of reform progress
- Reforms are “aimed in the right direction, to make markets and institutions more transparent, less complex, and less leveraged.”
- However, the report argues:
- Reforms in some areas still need to be further refined.
- Far more work needs to be done to implement reforms.
- The system in many cases remains vulnerable, overly complex, and activities are too concentrated in large institutions.
- Reliance on non-deposit funding is very high.
- Linkages across domestic financial institutions are very strong.
- Complex financial products are taking on new forms.
- “The good news is that there do not appear to have been serious setbacks to financial globalization (despite reversals from some crisis-hit economies); however, this also means that in the absence of appropriate policies, highly integrated economies are still susceptible to harmful cross-border spillovers.”
Focus on banking reform and unintended consequences
- Most reforms to date have targeted the banking sector, aiming to impose higher costs on certain risky activities.
- Specific reform elements noted:
- Higher capital and liquidity buffers under Basel III requirements to better enable institutions to withstand distress.
- Reform of regulation of derivative markets to make them more transparent, improve pricing of derivatives, and mitigate some counterparty risks.
- Possible adjustments and side-effects highlighted:
- Banks may adjust to new costs in unintended ways; “Innovative products are already being developed to circumvent some new regulations.”
- Activity may migrate to the nonbank financial sector where banking standards do not apply.
- Large banking groups with scale advantages may better absorb regulatory costs and become more prominent, increasing market concentration.
- The low interest rate environment is “crucial for now; however, it may also be creating new vulnerabilities in the future.”
- Laura Kodres, chief of global stability analysis in the IMF’s Monetary and Capital Markets Department: “The low interest rate environment is crucial for now; however, it may also be creating new vulnerabilities in the future. And this is the time to alert regulators and supervisors about the possible side-effects of these crisis-related measures so that they do not wake up to new risks down the road.”
- Kodres added: “We do not yet see the impact of the reforms; they have long implementation lags and the crisis is ongoing. Yet, we provide a framework that can be used to assess the effect of reforms on the structure of intermediation in the future, when the dust has settled.”
Areas identified as needing further work
- The report lists specific areas where reforms remain incomplete or need refinement:
- the need for a global-level discussion on the pros and cons for direct restrictions on certain business activities for banks, rather than just requiring them to hold more capital for these activities;
- monitoring, and a set of prudential standards if needed, for nonbank financial institutions posing systemic risks within the so-called shadow banking sector;
- careful thought on how to encourage the use of simpler products and simpler organizational structures;
- further progress on sorting out large institutions that get into financial trouble, including cross-border resolution to help secure the benefits of financial globalization.
Conditions for successful reform implementation
- The report states success of current and prospective reforms depends on:
- enhanced supervision;
- incentives for the private sector to adhere to the reforms;
- the political will to implement regulations;
- the resources necessary for the task of making the financial system simpler and safer.
IMF Survey: Safer Global Financial System Still Under Construction, Says IMF (IMF Survey online, September 25, 2012).
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