Transcript of October 2019 Global Financial Stability Report Press Briefing
IMF News, October 16, 2019
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- Published: October 16, 2019
Global financial backdrop and market developments
- About 70 percent of the world's economies, weighted by GDP, have adopted an easier stance on monetary policy.
- Investors interpreted central bank actions as a turning point in the monetary policy cycle; the shift has been accompanied by a sharp decline in long-term yields and in some major economies interest rates are described as "deeply negative."
- The amount of government and corporate bonds with negative yields has increased to about $15 trillion.
- Markets expect about one-fifth of government bonds will have negative yields for at least three years.
- With rates "lower for longer," financial conditions have eased, containing downside risks and supporting global growth in the short run, but this has encouraged higher risk-taking and stretched valuations in equity and credit markets across emerging, frontier, and advanced economies.
Rising vulnerabilities and key metrics
- Elevated vulnerabilities among non-bank financials:
- Non-bank financials (including asset managers, structured finance vehicles, and finance companies) vulnerabilities are now elevated in 80 percent of economies, as measured by GDP—comparable to levels at the height of the global financial crisis.
- Corporate sector vulnerabilities:
- Corporate debt owed by firms unable to cover interest expenses with earnings ("corporate debt at risk") could rise to $19 trillion in a scenario that is just half as severe as the global financial crisis.
- That would be almost 40 percent of total corporate debt in the eight economies studied (including the United States, Japan, China, and some European countries) under such a downside scenario.
- Total corporate sector debt in these eight major economies now stands at about 51 trillion US dollars, compared to about 34 trillion in 2009.
- In some countries, debt at risk is already at about 25 percent of total corporate debt.
- External debt in emerging and frontier economies:
- External debt has risen to 160 percent of exports on average, up from 100 percent in 2008.
- A sharp tightening of financial conditions and higher borrowing costs would make servicing that debt more difficult.
- Banking sector resilience and remaining weaknesses:
- Overall banking sector resilience has improved due to stricter regulations and supervision since the global financial crisis.
- Some banks’ market capitalization has fallen to low levels; negative yields and flatter yield curves have reduced expectations about bank profitability.
- Estimates cited that, depending on the country, high-quality capital is about two to three times higher than pre-crisis levels.
- Outside the United States, US dollar funding liquidity remains a vulnerability that could amplify funding shocks and create spillovers to countries receiving cross-border dollar loans.
Non-bank financial intermediation (NBFI) and asset-management risks
- Search for yield by institutional investors (insurance companies, asset managers, pension funds) has led to riskier and less-liquid exposures, which may act as shock amplifiers.
- For open-ended funds / asset management:
- Report highlights incentive to reach for yield via less liquid, higher credit risk securities.
- Declining liquidity buffers and greater portfolio similarity increase systemic concerns.
- Stress-test scenario cited: a shock of about 160 billion, which is about 1.5 percent of the assets of the Fund under the scenario; weaknesses concentrated more in Europe and among smaller funds.
- Collateral quality entering CLOs is deteriorating, which is a source of concern despite CLOs having fared well through the last crisis.
Channels of amplification and contagion
- Financial vulnerabilities act as amplifiers for adverse shocks (e.g., trade tensions): higher vulnerability -> worse amplification of bad news.
- Trade tensions have moved markets, increased downside risks to economic activity, and affected portfolio flows to emerging markets (equity flows reacted closely to trade news).
- Non-Paris Club or non-multilateral creditor debt can complicate debt resolution and heighten vulnerabilities in low-income countries, particularly in Sub-Saharan Africa.
Scenarios and stress considerations
- Corporate debt at risk: scenario described is a material downturn "about half of the severity of the global financial crisis" leading to $19 trillion of corporate debt at risk in the eight-economy sample.
- Asset-manager run scenario: about 160 billion shock (~1.5 percent of assets in the scenario) used to illustrate potential redemption/liquidity pressures in open-ended funds.
Policy recommendations and priority actions
- Macroprudential and supervisory responses:
- Deploy and develop, as needed, new macroprudential tools for non-bank financial firms.
- Address corporate vulnerabilities with stricter supervisory and macroprudential oversight, including targeted stress-testing of banks and prudential tools for highly levered firms.
- Contain underwriting standard deterioration at the issuing stage for nonfinancial corporations through policy tools.
- Activate sectoral macroprudential tools where corporate debt reaches systemic levels (examples: additional risk weights or additional capital buffers on bank exposures to corporates).
- Strengthen supervision of non-bank financial intermediaries; increase disclosure to enable comprehensive risk assessment by investors and supervisors.
- For open-ended funds: consider stricter liquidity risk management, stress testing, efforts to address leverage and maturity/liquidity mismatch in funds.
- Banking-sector and resolution frameworks:
- Continue to bolster bank solvency and liquidity, with particular attention to small- and medium-sized banks and regional banks.
- Develop crisis management frameworks, including resolution regimes for banks.
- Sovereign debt and emerging/frontier market advice:
- Implement prudent sovereign debt management practices and frameworks.
- Manage domestic and external borrowing responsibly; local-currency borrowing is not a panacea and requires careful management of nonresident holdings and rollover risks.
- Global and cross-cutting priorities:
- Complete and implement the global regulatory reform agenda; avoid rollback of regulatory reforms.
- Foster development of sustainable finance and encourage better corporate disclosures and adequate standardization to raise awareness of climate and other financial-system risks.
Country and regional notes raised in discussion
- China:
- Authorities have tightened financial regulation and undertaken deleveraging efforts; shadow banking has stopped growing but remains large; concerns remain about small- and medium-sized banks and regional banks.
- Recommendations: continue deleveraging, implement asset management reform, strengthen crisis management and resolution frameworks, and increase solvency of smaller banks.
- Mexico:
- Exposure to US manufacturing and trade makes Mexico vulnerable to trade tensions and volatile capital flows.
- Article IV recommendations highlighted: pursue a more growth-friendly and inclusive fiscal policy, ease monetary policy if inflation is in check, boost financial inclusion, and promote structural reforms (particularly on state-owned enterprises).
- Nigeria / Sub-Saharan Africa:
- Capital flows have been strong and are expected to reach record highs in the year cited; responsible use of borrowed funds and structural reforms are key to leveraging inflows.
- Nigeria faces high exposure to nonresident holders of domestic debt (central bank bills) and significant upcoming redemptions/rollover needs; careful management of local-currency debt and nonresident investor behavior is important.
- Low-income countries with non-Paris Club creditors:
- Debt vulnerabilities are a growing concern; more than a dozen countries were cited as being in distress or at high risk of debt distress (per IMF evaluation referenced in discussion).
Overarching message
- With financial conditions easy and vulnerabilities building—especially in non-bank financials and the corporate sector—policymakers should act now using prudential, supervisory, macroprudential, and regulatory tools to reduce vulnerabilities that could exacerbate the next economic downturn.
Transcript of October 16, 2019 IMF press briefing on the Global Financial Stability Report