Transcript

Speakers:

Tobias Adrian, Director, Monetary and Capital Markets Department, IMF

Anthanasios Vamvakidis, Deputy Director, Monetary and Capital Markets Department

Jason Wu, Assistant Director, Monetary and Capital Markets Department

 

Moderator:

Meera Louis, Communications Officer, IMF

 

Moderator: Good afternoon, everyone. Welcome to this GFSR press conference. Thank you for coming and for your time and for your interest in this report. I am Meera Louis with the Communications Department at the IMF. Joining us here today is Tobias Adrian, Financial Counselor and Director of the Monetary Capital Markets Department. Also with us here today is Anthanasios Vamvakidis and Jason Wu, Deputy Director and Assistant Director of the Monetary and Capital Markets Department.

Before we turn the floor over to you for questions, I would just like to turn to Tobias and just ask him, Tobias, we see a lot of—despite the uncertainty that we are seeing, financial markets seem to be rather calm, but there are some subtle shifts that could unravel in this landscape, so I was just wondering, how do you and your team approach this uneasy calm that we are seeing and how do you explore and assess the market behavior when you are laying out your observations, Tobias? 

Mr. Adrian:  Welcome here to the IMF and the press conference for the launch of the GFSR. In April, markets sold off in response to the tariff announcements, including stocks, longer-term bonds, and the US dollar exchange rate. Since then, markets have recovered strongly with major advanced economies up about 10 to 15 percent year-to-date, and emerging markets about twice as much. Gold has rallied very strongly in response to high policy uncertainty. And so, at this juncture, financial conditions are fairly easy across markets and across countries. Now, having said that, we see three vulnerabilities that we really highlight in the GFSR. The first one is that asset prices are stretched and so they are vulnerable to readjustment in valuations. The second vulnerability is about the interaction with nonbank financial institutions, so if asset prices were to adjust, that could impact nonbanks and could potentially lead to redemptions and further pressures on valuations.

Thirdly, longer-term bond yields have risen in a number of countries in recent years, and some of that is reflective of fiscal concerns around the world in many countries. These fiscal concerns could then interact with banks and nonbanks. So, our punchline in the global financial stability report this time is that while financial conditions are easy, the macrofinancial risks remain somewhat elevated.

Moderator: Now I will turn the floor over to you for questions. By now you should have received the GFSR report. If not, you will find it online. If you cannot join us physically, you can ask your question via WebEx as well. We have both the report and the blog available for you. I will turn the floor over to questions. Please identify yourself and your outlet, please. Thank you very much. Yes, the lady over there in the third row, please.

Questioner: I have a question on frontier markets like Sri Lanka, how the IMF is assessing investor confidence in countries like Sri Lanka that are emerging from debt restructuring but still face high borrowing costs and limited market access. What do you perceive as the key financial stability risks in this phase to recovery and also in terms of stability risks as these countries implement structural reforms?

Mr. Adrian: Yes, thank you so much for your question. As you point out, Sri Lanka has been emerging from a debt restructuring and is on the path to growth and to restoring confidence. When we look at global markets relative to frontier economies, so those are low-income countries with market access, we do see that financial conditions are fairly easy, so there is liquidity. Countries can access markets. Indeed, we have seen quite a bit of issuance this year. That is in line with historical standards.

Mr. Wu: Thank you. Maybe I can complement by saying that Sri Lanka's economic performance has improved so it is good to see. On your question on frontiers in general, the softer dollar has lessened external pressure but now is not the time to be complacent at the same time.

So, frontier economies need to continue to improve economic fundamentals, that includes both on the current account as well as fiscal buffers rebuilding—as our WEO colleagues have mentioned in the previous session.

Importantly, in the GFSR, we also have the chapter this time about strengthening bond market structure, so that frontier economies can obtain financing through domestic means rather than over-relying on external funding. These include improving institutions' quality, improve the predictability of issuance and further develop debt markets in ways that will be conducive to channeling domestic savings towards governmental use.

So, overall, I think we acknowledge the resilience that frontier economies and emerging markets have demonstrated through this period. Obviously, there is more work to be done as well.

Moderator: Thank you, Jason. The gentleman in the front row.

Questioner: Thank you so much. President Trump seems to be out of control. There are tariffs on every country on the planet, including on penguin islands in Australia where nobody lives. There is the politicization—the attempt to politicize the Federal Reserve—the attempt to fire the Federal Reserve Chairman and to fire Lisa Cook, who is the black woman who is a member of the Federal Reserve Board of Governors. So, taking all of this into consideration, is President Trump, are his policies a longterm threat to the financial stability? Thank you.

Mr. Adrian: As I said at the outset, markets have performed strongly this year, so there is certainly heightened policy uncertainty around the world in many countries, but market volatility is aligned with historical standards. In April, after the tariff announcements, there was a spike in volatility but that has reverted back to lower levels. So, markets are certainly reacting to the flow of news but have remained fairly robust and issuance has been robust, so many emerging markets and frontier economies have come to market have been able to issue debt, so global liquidity remains ample.

Moderator: Thank you, Tobias. Just on the markets, we have a question online, who asks, "Do you get a sense that bond yields are moving higher? And we have left the low-rate environment that persisted from 2008 until the pandemic. Is this the end of a savings glut and perhaps investors should not expect low rates going forward? What is your assessment? 

Mr. Adrian: Thanks so much for that question. When you think about bond yields, you can really distinguish two very important points of the yield curve. One is the short end of the yield curve and the expectations about future short rates. Short rates had come up as monetary policy was tightened, when inflation surged starting in 2021 and 2022. And Central Banks have had a very strong track record in terms of getting inflation either back to target, like in the case of the Euro Area, or closer to target as is in the case in many other countries. So, when we look at short rates and expected future short rates, they are somewhat more elevated than in the decade post the financial crisis, but they remain at fairly sort of like average levels.

However, when we look at longer-term bond yields, there is not only the expectation about future short rates that is priced into longer-term bond yields, there is also an interest rate risk premium called a term premium that is priced into those longer-term bond yields. And that term premium has indeed been rising in recent years. And according to our models in sort of like benchmark sovereign debt markets, that term premium is back to levels not seen since before the Global Financial Crisis, so about 20 years ago. So indeed, what we are seeing is kind of a normalization back to longer-term term premia that are similar to the period pre-GFC and prequantitative easing of the major central banks around the world.

Moderator: Thank you, Tobias. There is a question here on the second row.

Questioner:  Thank you very much. My question is on the Japanese longer-term bond market. You have mentioned already there is some term premium in terms of the [inaudible], but recently the Japanese governmental bond market, especially longer-term yield, increased substantially. What is your implication on that phenomenon? On top of that, I would like to ask about the Asian stock market. It’s hovering around a record high, but even though Chinese growth rates were [weak] before. What is your view on that point? Could it be a sustainable one? Thank you.

Mr. Adrian: Thank you so much. Let me start with the ending of the question on China. We have seen robust growth in China this year of around 5 percent. Now, what is weak in China is the domestic consumption, which is below the headline growth rate, but markets have performed fairly strongly in China as well as in the rest of Asia. As I pointed out, Asia has been outperforming other markets, both for advanced economies and for emerging market Asia. So that is reflective of strong economic performance in many countries.

Now, turning to Japan—and I am going to turn to Athanasios in a moment. In Japan there is some policy uncertainty at the moment and so there is some assessment of markets that is being priced in. Taking a longer-term view, we have indeed seen the long end of the yield curves, so the 30year bonds relative to the 10year bonds or the 30year bonds relative to the shorter-term bonds have been increasing, but that is also a phenomenon we have been seeing in other countries around the world.

Mr. Vamvakidis: What we have seen recently in Japan following the latest political developments is some weakness in the yen, higher yields, but this is consistent with the market pricing a higher probability of policy easing, both fiscal and money policy. Having said that, if we look at the level of the yen, it is actually stronger for the year compared to the US dollar. Dollar-yen is well below the peak that occurred mid last year, and below levels in which the BoJ intervened in the past. The yields in Japan have been rising in the post-pandemic period consistent with high inflation, the Central Bank of Japan are hiking. As Tobias pointed out, we have seen an increase in the 10, 30year spread, but this is consistent with trends we have seen in other advanced economies, particularly this year.

Moderator: Thank you very much. There is a gentleman in the second row and then we will come to you.

Questioner:  I have been attending these meetings at the IMF, this World Bank and IMF meetings in October, in Bali, Marrakech, seven times in Washington, D.C. Today you were talking about the price of gold, more than $4,000 per ounce. Sometimes the world economy seems to revolve around the price of commodities and particularly oil and gold. So, in this context, what is ahead in the midterm for countries in particular who want to improve their standard of living? Because advanced economies have it all done, we could say. But what to do in the case of countries where there are still a lot of struggles? Thank you.

Mr. Adrian: Thank you so much. The question was about how can emerging markets and developing economies improve their standards of living. So, from a financial stability point of view, it is really the development of capital markets that is something we have been emphasizing for many years. In this report, we have a chapter on domestic bond markets, so we have seen many of the major and emerging markets really develop domestic bond markets. Alongside those domestic bond markets, often times there are also derivatives markets, swap markets, and stock markets. We really think that this development of the domestic markets is helping countries to develop more resilience relative to external shocks but ultimately also supports growth and development. Of course, there are additional structural policies that have been recommended, but our focus here is more on the capital market side and a resilient banking system and a resilient capital market are certainly key contributors to growth.

Moderator: Thank you, Tobias. A question here in the front row.

Questioner: What do you think about the plans for the deregulation of the banking system and the second one, what would it mean for the global financial market if the Fed fully loses its independence? Thank you.

Mr. Adrian: Thank you so much for those questions. So, in terms of regulations, our understanding is that countries around the world, including in the US, are continuing to work towards finalizing Basel III. Basel III has been on the agenda since 2010. It has been slightly revised in 2017. There is a commitment of the Basel member countries to really finalize that. Having said that, some of the regulatory approaches in the US had been gold-plated relative to the minimum standards, so there is some debate around that.

Now, turning to central bank independence, the Federal Reserve Act basically enshrines operational independence of the Federal Reserve, so that means that there is a certain autonomy of the Federal Reserve that allows it to achieve its mandated targets, which are price stability and full employment in the case of the Fed. Basically that autonomy goes hand in hand with accountability. That is how the Federal Reserve Act as written in the law operates.

Mr. Wu: Just to quickly add on regulations, I think we have seen the core of the financial system, the banks being rather resilient over the past decade or so, in part thanks to these postcrisis regulatory reforms. What we do say in the GFSR this time is that efficiency should be ensured by reviewing any undue complexity in the framework, but importantly without undermining the overall resilience of the banking sector or the international minimum standards. So, I think those are important principles in our view to go by. Regulations can be reviewed. However, it should not come at the expense of reducing the resilience of the sector.

Moderator: Thank you, Jason. We have a question on that side of the room. The gentleman there, right there.

Questioner: A question about France. The political situation in France is getting worse and the trends in the fiscal budget are not clear. Do you believe that France could represent a threat to stability of the European Monetary Union like it was many years ago at the time of the Italian debt crisis?  

Mr. Adrian: Thank you so much. What the question is alluding to is the sovereign debt crisis that occurred about 13 years ago in Europe. At that time, you really saw spillovers across European countries where a number of countries were in focus, but it was the strong spillovers across countries that was one of the key features of that sovereign debt crisis. That is quite different from the situation today where we have seen indeed that spreads relative to the bond have been widening to some degree, but the widening is fairly contained, and we have not seen a broader spreading across to other European countries. So, we think that there is a certain degree of repricing relative to policy uncertainty, but at the same time, there is a fairly contained price action.

Moderator: We got another question. We are going to come to you. Actually, I will come to you and then I will go back online.

Questioner: My question is about dollar weakening as well. You talked about frontier markets. What are the implications for emerging markets in particular? Does it mean cheaper fundraising and opportunities?

On the uncertainty and the risks, how concerned are you about these risks? We have the warning from the G20, from the FSB. What is your take on that, please?

Mr. Adrian: Thank you so much for the question. So let me start with the weaker dollar. To put it into context, we had seen a strong appreciation of the dollar for many months, and there was some reversal in terms of the level of the dollar starting January, but over a longer-term time horizon, these fluctuations in the value of the dollar are fairly range bound. There are perhaps two contributors to the revaluation of the dollar this year. One is that it came back to more average levels relative to the previous rise. Secondly, there was an increased hedging activity for some time that may have contributed to the revaluation of the dollar.

Now, a weaker dollar is generally easing financial conditions in emerging markets, and indeed we have seen equity markets but also bond markets in emerging markets perform very strongly. Many emerging markets have outperformed advanced economy benchmarks by a ratio of 2 to 1 on average. So, this is very strong. Basically, that helps corporations but also countries to obtain funding in global capital markets. Indeed, we have seen strong issuance of emerging markets and developing economies year-to-date.

Moderator: Just on the dollar, we also got—on gold, I know that you had answered a question earlier, but we got another question online from Lu Kang from Sina Finance who is asking could the shift towards gold as a preferred hedge intensify dollar funding strains or alter traditional safe haven flows in times of stress? 

Mr. Adrian: Thank you so much. Of course, we have seen a very strong appreciation of the dollar this year. We think that that is in relation to overall uncertainty in the world, so gold has always been a hedged asset, and there is certainly an increased amount of global uncertainty, policy uncertainty in many countries that we observe.

In terms of benchmarks, safe assets, we continue to view US dollar bonds, alongside a number of other benchmark bonds, as key safe asset benchmarks. The depth and breadth of capital markets of US dollar assets remain the very large and the deepest markets around the world.

Mr. Vamvakidis: Just to flag the second chapter in the report focuses on the FX market. The structural, how it can affect other markets. And I could summarize it by saying FX matters a great deal. I think we have a flavor of this earlier this year with the move we have seen with the dollar weakness.

Moderator: Thank you, Athanasios. There is a question here in the second row.

Questioner: This is connected to the gold reserves. Almost everybody country is going and parking a lot of their assets in gold. It is an attempt to de‑dollarize but will this build another level of risk if more and more countries park their money in gold? Is there another risk building up because of that?

Moderator: Are there any other questions on the same theme? No. Go ahead.

Mr. Adrian: When we look at official reserve holdings, there has indeed been a trend over several years already to increase gold holdings alongside some other commodities as well. To some degree, that may have contributed to the evaluation of gold, but this trend in allocating more reserves to gold has been pretty steady over the years, so it is hard to argue that that would be a major cause for the runup in the price of gold.

In terms of reserve allocations, generally we recommend having a welldiversified portfolio for reserves. When we look at reserve allocations across different currencies and across gold, those are fairly stable. They do change slowly over time, but the trends are really very, very slow moving.

Moderator: Thank you. Any other questions? There is a gentleman right at the back.

Questioner: Thank you. I just wanted to follow up on the fact that bonds—highquality bonds are basically the safe haven. Since 2022, bonds and equities are moving in the right direction, so that diversification effect is no longer there. So that perhaps is contradicting the fact that there is a safe haven. The other aspect I would like you to comment on, in nominal terms, yes, they are a safe haven, but how about inflation? You get money back but depreciated. Thanks.

Mr. Adrian: These are excellent questions. It is indeed the case that the correlation between stocks and bonds has shifted. That happens sometimes. It may be related to the nature of shocks. So, we have seen more shocks that are related to the supply side of the economy, and for supply shocks, this hedging property of stocks and bonds may be shifting. As a result, there is higher correlation basically, positive correlation as opposed to negative correlation between stocks and bonds, and so that indeed changing the hedging properties.

As I alluded to earlier, we have indeed seen an increase in term premia of longerterm bonds, and that is true for both nominal bonds as well for real bonds. So, there are treasury, inflationprotected bonds in many countries, and these realterm premia are the main reason why term premia have gone up, and to some extent, that may indeed be linked to this hedging property.

Moderator: Thank you. A question over here is on the right and then we will come to the front row.

Questioner: You mentioned there is a risk of complacency in financial markets with regard to fixed income, but you have also mentioned that there is a rise in term premia, that there has been repricing of government bonds in Japan, France, and other countries, so I am curious about what the complacency is and if actually the term premia and the spreads are still far too sanguine for your liking? Is that what you are trying to say?

Mr. Adrian: Yes, so let me perhaps make three points in relation to this excellent question. So, the first one is really related to the term premia in core bond markets. This is—let us say the US and the Euro Area, largely. Those term premiums have come up. There is a very striking chart in the GFSR, I think it is figure 1.12 that shows basically the relationship between the future term premium and the net supply of bonds. So, this is done for G4 economies, US, Euro Area, also UK and Japan. Basically, what it shows is that as net supply is increasing. You do have pressure on these longerterm bond yields via term premia. Looking just at the projected net supply going forward, given quantitative tightening of many central banks and given the larger financing needs from fiscal policy, we may indeed see further pressure on those term premia in coming years. So, this is more of a medium-term perspective.

The second point I would make is that when you look at emerging market yields relative to these benchmark yields, so say at the ten-year level, an average emerging market investment grade yield or high yield relative to the ten-year benchmark US yield, that is actually very tight. So relative to the level of the benchmark yields, financing conditions are fairly easy in emerging markets. There could be some degree of complacency there. That is, of course, benefiting emerging markets in terms of being able to issue and access markets, and we have seen strong issuance.

The third thing is really the complacency in equity markets. Indeed, when we look at valuation levels, we estimate that valuations, for example, for the S&P 500 and global stocks are somewhat stretched. One of the estimates we have in the report is that it is about 10 percent over valuation. That is only about half of the overvaluation compared to 99, but it is still some degree of stretching. That again is benefiting issuers as their cost of capital is low and that is to some extent aiding the investment boom that has been very strong, particularly in the United States.

Mr. Wu: Just to quickly complement. Tobias is right, it is figure 1.19 for those who are interested. But I think it is a projection that term premiums should continue to rise given the increasing supply of bonds.

I think we acknowledge in the report that the yield levels and market functioning in sovereign bond markets have been fairly benign so far. I think what bears watching is the functioning in these markets as we progress and as fiscal consolidation, if they were not to happen, we expect these functioning to become perhaps a little bit more challenging in the coming years. I think the report details a couple of matrix—I will not get into that today—for us to look into. I think the punchline message here is it is important to look at the fiscal side and ensure that these bond markets are not adversely affected by issuance as by spending.

Moderator: Any more questions? Yes, the lady at the back and then maybe—yes, go ahead.

Questioner: You talk about stretched valuations in the report, and you also talk about the concentration of US stock markets in AI, in that tech industry. Can you just talk us through, if we did see a correction of the kind that you warn about, to what extent is that a problem for the world, to what extent does it jeopardize financial stability and how does that play out?

Mr. Adrian: Yes, absolutely. Let me start out and then also pass to my colleagues. When valuations are stretched, what we think is that there is—an increased sensitivity relative to adverse shocks. For example, when the tariff announcements were above expectations in April, we did see a selloff in equity markets globally and the magnitude was fairly sharp, so the twoday drawdown in global equities was quite large relative to say the Global Financial Crisis or the onset of COVID-19, very similar magnitudes.

Now, markets have recovered very quickly from that, so it does not necessarily mean when you do see a selloff, that that would be a persistent selloff.

So, it is really the sensitivity relative to news that may be higher when evaluations are stretched.

Mr. Vamvakidis: What I will say, definitely the recovery in risk assets since April has been impressive. But I think relative comparison is markets compared to a year ago and what is the situation according to the World Economic Outlook forecast, growth has been revised downwards, and risks have increased. So, although in some cases valuations might not be at extreme levels historically compared to these deteriorations in the outlook and increase in risks, you do see that these valuations might look stretched. And what can trigger a correction, nobody knows. But if some of these risks that we discuss in our report and the WEO has flagged materialize, you are likely to see a correction.

Moderator: The question here in the second row, please.

Questioner: Creative crypto, how much of a threat to stability is that? I am thinking in particular of some of these fruity forecasts of growth in stablecoins, which as you know the current administration regards as a way of further internationalizing the dollar.

Mr. Adrian: Yes. So, when we look at the picture on stablecoins today, there are about 400 billion outstanding globally. The vast majority are indeed denominated in US dollars, though they are being used around the world. There are stablecoins that dominate in other currencies as well, such as the euro or the yen or the pound or so, but it is largely a dollar phenomenon to date.

What has happened in the US is that a law was passed, the Genius Act, which provides a legal basis and a pathway to regulatory approach for stablecoins. Similar initiatives had already been taken in other jurisdictions, such as the Euro Area or the European Union, rather, and Japan where regulation of stablecoins already passed back in 2023. There are some other countries with stablecoin regulations and laws. So, we certainly welcome the steps towards regulations, and we actually have a policy framework for crypto-assets that we published back in February 2023 that really lays out from both a broad policy perspective as well as from a regulatory perspective what our recommendations are for countries. Broadly what we are seeing is that there are differences across countries in terms of the specific implementation of regulatory approaches and broader policy approaches relative to stablecoins, but broadly the pathway is aligned with our framework.

Moderator: Thank you. Any other questions? We are running out of time so maybe we will just group them. So, the lady over there.

Questioner: How vulnerable is the UK from sovereign debt risk? There was a question from France. I was wondering about the UK as well.

Moderator: Thank you. Two questions here.

Questioner: Nigeria's currency lost about three quarters of its value in the last two years. I want to find out what is IMF's advice to the government on how to improve the value of the naira.

Moderator: A last question over here.

Questioner:  Thank you. Given the global economic uncertainty, market disconnection and high debt that we are seeing in emerging and lowincome countries, what are your recommendations for proactive macroprudential policies that governments can take to address systemic risks and prevent the buildup of financial imbalances?

Moderator: Thank you. We will go to the UK first.

Mr. Adrian: Yes, Athanasios, do you want to talk about the UK?

Mr. Vamvakidis: Clearly the markets are concerned about the UK economy. We have seen more volatility in the UK compared to other advanced economies, including recently. This is driven by a number of factors, low productivity, sticky inflation. The market is asking for more details on the fiscal plans in the UK. So, yields as a result are higher in the UK compared to other advanced economies. The sterling is more or less in the middle compared to the other G10 currencies this year. To some extent this reflects overall dollar weakness. But the bottom line is that the markets move in the UK are consistent with the fundamentals. Looking forward, the recommendations of the IMF for the UK are credibility on the fiscal consolidation plan and reforms to increase productivity.

Mr. Adrian: Let me start with the macroprudential question and then go to Nigeria and then perhaps you can also complement a little bit on sub-Saharan Africa more broadly.

So, in terms of macroprudential approaches to regulation, that is really the baseline approach in which we think about prudential tools. So, we always have a kind of macro-overlay in terms of thinking about magnitudes and resilience. For example, in the Global Financial Stability Report, we published an update to our global stress test, which covers about 800 institutions around the world in about 40 countries. We do see overall a resilient banking system globally, though there is a weak tail of institutions in most countries, and addressing that weak tail of institutions is certainly one of the key objectives from a macroprudential point of view.

We also focus quite a bit on the interaction between nonbank stress or potential stress in the nonbank financial sector and the banking sector. We flag that in countries where we have good data for this, this interconnectivity is quite large, so we flagged that about 40 percent of assets are in banks that have exposure to nonbanks that is above 100 percent of their capital level, so it is quite meaningful exposure to the nonbank financial sector.

So that is a flavor of how we sort of like take a macro-overlay to prudential policy.

In terms of the Nigerian economy, of course, exchange rates are important buffers to adjust the domestic economy relative to shocks. A depreciating exchange rate is not necessarily a bad thing. It may actually be a good thing in order to restore equilibrium. We have indeed seen in Nigeria, many steps to strengthen policy frameworks such as on the monetary policy side. We generally do recommend moving towards more flexible exchange rates.

Mr. Wu: In addition to monetary policy actions, revenue collection has strengthened in Nigeria and transparency in terms of FX reserve positions have improved. I think all of this has contributed to lower inflation from more than 30 percent last year to 23 percent this year, as well as improved FX reserve positions in Nigeria. So the direction of travel appears to be positive.

That said, I think sub-Saharan Africa in general is facing—continues to face headwinds. While growth has been pretty strong, during this period where financial conditions are easy, capital flows are resuming. It is also possible that the previous capital flow surge and then retrenchment cycles that we have seen before could happen. When that happens, it would expose some of these economies with vulnerabilities, particularly when foreign investments were to retrace.

It is important for countries to continue to improve the fundamentals on the fiscal and monetary policy side, but also in terms of developing more structural policies, like revenue mobilization, as Nigeria is trying to do, debt management and hopefully also support from the international community.

Moderator: Thank you. Thank you, Jason, Athanasios, and Tobias. Thank you very much for attending our press conference. Apologies we could not answer all the questions, but feel free to reach out to us, and we will definitely try to answer your questions.

Mr. Adrian: Let me just thank our team that is really behind the scenes and has produced this tremendous Global Financial Stability Report. Thanks so much for the team.