How to Sustain Recent Financial Gains: Fix Old Risks and Meet New Challenges

IMF Blog, April 17, 2013

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Canonical URL: How to Sustain Recent Financial Gains: Fix Old Risks and Meet New Challenges

Author: José Viñals; Date: April 17, 2013.
Policymakers’ decisive actions since the IMF’s last report in October have increased global financial stability by reducing acute risks.
Improved financial markets and gains in financial stability will not be sustained—and new risks are likely to emerge—unless policymakers address key underlying vulnerabilities.
Key framing: vulnerabilities are of two types — “Old risks” (legacy of the crisis) and “new risks” (from prolonged easy monetary policies).

Euro area still needs to be fixed; policymakers averted an immediate financial cliff but structural problems remain.
Credit is not adequately flowing in the euro area periphery.
Periphery corporate sector faces a sizeable debt overhang built up before the crisis.
- The report identifies a weak tail of companies that need to reduce their debt over time.
- The required debt reduction by these companies accounts for a fifth of the total debt of periphery corporates in the sample.
- This poses a challenge to periphery economies and financial stability.
Banking system repair is uneven:
- Five years after the start of the crisis, repair is largely completed in the United States but remains unfinished in Europe.
- Many banks in euro area periphery countries still need to strengthen their balance sheets.
- Important banks in the euro area core remain too dependent on wholesale funding markets.
Global financial regulatory reform agenda is incomplete, creating regulatory uncertainty that leaves banks less willing to lend.

Prolonged easy monetary policies in advanced economies may cause side effects: excessive risk taking and leverage, and asset bubbles.
Evidence and channels identified:
- United States: corporate debt underwriting standards are weakening rapidly—even though corporate fundamentals are strong, and leverage is in line with typical historical patterns.
- Continued low interest rates are leading some pension funds and insurance companies to take further risks to close their widening funding gaps.
- Emerging markets: easy money is spilling over to emerging markets; borrowing on international markets by corporations in emerging economies has been growing at a record pace, exposing them to foreign currency risks and rising leverage.
- This growing leverage makes emerging economies more sensitive to volatile capital flows.
- The eventual unwinding of prolonged monetary easing in the United States could expose these vulnerabilities and destabilize credit markets.
The current situation is described as “uncharted territory.”

Fix the euro area:
- Implement stronger policies to reduce financial fragmentation to help unblock the flow of credit to the economy and increase the resilience of the currency union.
- Complete banking sector repair and move steadfastly towards full-fledged banking union.
- Improve the flow of credit to solvent small and medium-sized enterprises.
- Address private debt overhangs to complement the clean-up of bank balance sheets.
Complete and implement the regulatory reform agenda:
- Renew political commitment at the national and global levels to finish regulatory reform.
- Minimize regulatory uncertainty and arbitrage, and reduce financial fragmentation.
Address new risks in advanced economies and the United States:
- Keep banks safe.
- For non-banks, be vigilant and proactive by restraining too rapid increases in leverage and by encouraging prudent underwriting standards.
- Deploy appropriate microprudential and macroprudential policies.
Address new risks in emerging market economies:
- Guard against deteriorating bank asset quality and disruptive short-term capital flows.
- Deploy prudential policies to ensure adequate buffers in the financial system and to prevent excessive build-up of leverage and asset price bubbles.

Recent policy actions have bought precious time to address underlying financial vulnerabilities.
The report’s message: addressing old risks is essential to leave the crisis behind and reduces the need for continued accommodative monetary policies, which in turn prevents new risks from growing and becoming systemic.
Final call to action: We all know what needs to be done. There is no time to waste. Get it done!

Source: IMF blog post “How to Sustain Recent Financial Gains: Fix Old Risks and Meet New Challenges,” José Viñals, April 17, 2013.

最近の金融部門の改善をいかに維持すべきか: 旧来リスクを打破し新試練に対処せよ; ホセ・ビニャルス; iMF direct ブログ 2013年4月17日掲載
- 最近の金融部門の改善をいかに維持すべきか: 旧来リスクを打破し新試練に対処せよ; ホセ・ビニャルス; iMF direct ブログ 2013年4月17日掲載 (Markdown version)
- 最近の金融部門の改善をいかに維持すべきか: 旧来リスクを打破し新試練に対処せよ; ホセ・ビニャルス; iMF direct ブログ 2013年4月17日掲載 (PDF)
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- 42462_Ch 01.indd (Markdown version)
- 42462_Ch 01.indd (PDF)