Transcript

Transcript of April 2020 Global Financial Stability Report Press Briefing

April 14, 2020

Participants:

Tobias Adrian, Director, Monetary and Capital Markets Department

Fabio Natalucci, Deputy Director, Monetary and Capital Markets Department

Randa Elnagar, Senior Communications Officer, Communications Department

MS. ELNAGAR: Good morning, everyone, and welcome to the Global Financial Stability Report Press Briefing. I'm Randa Elnagar of the IMF Communications Department. We have with us here, Tobias Adrian, a financial counselor and Director of the Monetary and Capital Markets Department. We also have with us, Fabio Natalucci, Deputy Director of the Monetary and Capital Markets Department. Tobias is going to give us some opening remarks, and then we’re going to start getting your questions. Thank you.

MR. ADRIAN: Good morning, ladies and gentlemen. Today, we are pleased to present the latest edition of the Global Financial Stability Report. Let me show you a new app, that we released today, which features all four of the IMF’s flagship products. So, you can download this app, and download the flagships, on your iPad.

Along with the first chapter of the report, which was released today, you will be interested in further chapters, which will be released in coming weeks. The COVID-19 pandemic has created an unprecedented human and health crisis. The measures necessary to contain the virus have triggered an economic downturn. At this point, there is great uncertainty about its severity, and length. This new edition of the report shows that the financial system has already been dramatically impacted. The further intensification of the crisis could threaten global, financial stability.

Since the pandemic’s outbreak, prices of risk assets have fallen sharply. At the worst point of the recent sell off, risk assets suffered half, or more, of the declines that they experienced in the global, financial crisis of 2008.

For example, many equity markets, in economies large and small, endured declines of 30 percent, or more, at the through. Credit spreads jumped, especially for lower-rated firms. Signs of stress also emerged in major short-term funding markets, particularly the global market for U.S. Dollars. Volatility spiked to levels last seen during the global, financial crisis, amid the uncertainty about the economic impact of the pandemic.

With the spike in volatility, market liquidity also deteriorated significantly. Including, in markets traditionally seen as deep, like the U.S. Treasury Market. That has contributed to abrupt, and surprise moves.

To preserve the stability of the global, financial system, and support the global economy, central banks worldwide have been the first line of defense. They have taken actions in four broad areas.

First, they have significantly eased monetary policy, by cutting policy rates. In the case of advance economies, to historic lows. Nearly half of the central banks, in emerging market economies, have also cut policy rates. The effects of rate cuts will be reinforced through central bank guidance, about future path of monetary policy. And, through expanded, asset purchase programs.

Second, central banks have provided additional liquidity to the financial system, including through open-market operations.

Third, a number of central banks have agreed to enhance the provision of U.S. dollar liquidity, through swap lines.

Fourth, and finally, the central banks have reactivated programs, used during the global, financial crisis. And, they have launched a range of broad-based, new programs, including the purchase of risky assets, such as copper bonds.

By effectively stepping in as buyers of last resort, in these markets, and by helping to maintain upward pressures on the cost of credit, central banks are ensuring that households, and firms have access to credit, at an affordable price.

To date, central banks have announced plans to expand the balance sheets, including through loans, and as purchasers, by over six trillion U.S. dollars. They have also expressed readiness to do more, if conditions warrant.

As a result of these actions, investor sentiment has stabilized in recent weeks. Strains in some markets have abated, somewhat. And, risk assets prices have recovered a portion of their earlier declines. Sentiment continues to be fragile, however. Global, financial conditions remain much tighter, compared to the beginning of the year.

All in all, the sharp tightening of global financial conditions, since the COVID-19 outbreak, together with the dramatic deterioration in the economic outlook, has shifted the one year ahead distribution of global growth, massively downward.

This points to a significant increase in downside risks to growth, and financial stability. There is now a 5 percent likelihood, an event that happens every 20 years, that global growth will fall below 7.4 percent. By comparison, this threshold was above 2.6 percent, in October 2019. A 10-percentage drop in downside risks.

So often, as it happens in times of financial stress, emerging markets have borne the heaviest burden. In fact, emerging markets have experienced the sharpest portfolio flow reversal on record. About 100 billion, or 0.4 percent of the GDP, posing stark challenges to more vulnerable countries.

The global spread of COVID-19 may require the imposition of tougher, and longer-lasting containment measures. Actions that may lead to further tightening of global financial conditions, should they result in a more severe, and prolonged downturn.

Such a tightening may, in turn, expose financial vulnerabilities that have intensified in recent years, in the environment of extremely low interest rates. This could further exacerbate the COVID-19 shock.

For example, asset managers are facing large outflows, and could be forced to sell into falling markets. That’s intensifying downward price movements. In addition, levered investors may force further margined calls. And may be forced to unwind their portfolios. Such financially levering may aggravate selling pressures.

As firms become distressed, and default rates climb higher, credit markets may come to a sudden stop. Especially in riskier segments like high-yield, leverage loan, and private debt markets. These markets have expanded rapidly, since the global, financial crisis, reaching 9 trillion dollars globally. At the same time, borrowers’ credit quality, underwriting standards, and investment protections have weakened.

Since early March, high-yield spreads have skyrocketed. Particularly, in the sectors most affected by the pandemic, like air travel and energy. Similarly, leveraged loan prices have fallen sharply. Reaching about half the drop that was seen during the global, financial crisis, at one point.

As a result, ratings agencies have revised upward, their speculative-grade, default forecast, to recessionary levels. Market implied defaults have also risen sharply. Banks are in the better position today, than they were at the onset of the global, financial crisis.

Banks have more capital, and liquidity than in the past. They have been subject to stress tests, and greater supervisory scrutiny in recent years. In addition, the substantial, and coordinated action, by central banks, to provide liquidity to banks, in many economies, should also help alleviate potential, liquidity strains.

Nonetheless, the resilience of banks may be tested in the face of a sharp slowdown in economic activity. Which may in turn, be more severe and prolonged than currently anticipated.

Indeed, large declines in bank equity prices, since mid-January suggests that investors are concerned about profitability, and prospects for the banking sector. For example, matters of bank capitalization, based on market prices, are now worse than during the financial crisis, in some countries. The concern is that banks, and other financial intermediaries, may act as an amplifier, should the crisis deepen further.

Looking ahead, central banks will remain crucial to safeguarding the global, financial stability, and maintaining the flow of credit to the economy. But this crisis is not simply about liquidity. It is primarily about solvency. At a time, when large segments of the global economy have come to a complete stop. As a result, fiscal policy has a vital role to play.

Together, monetary, fiscal, and financial policies should aim to cushion the impact of the COVID-19 shock. And to ensure a steady, sustainable recovery, once the pandemic is under control. Close, continuous, international coordination will be essential to support vulnerable countries, to restore market confidence, and to contain financial stability risks.

The IMF is ready to assert the full weight of its resources, to help protect the world’s most vulnerable economies, and to strengthen the eventual recovery.

Now, I would be pleased to take more questions.

MS. ELNAGAR: Thank you, Tobias. We’re going to start with this question. It seems a big risk to the global financial system now, would be a spike in interest rates. I know this is not the forecast, but suppose inflation is not so quiet, what does that mean for financial markets? Should the Fed guard against this with yield curve control? Thank you.

MR. ADRIAN: Yeah, thanks for the question. Indeed, when you look at yield curves in countries such as the U.S., Germany, or Japan, yields are very low, and they are very low at the long end of the curve as well. So there has been a flight to safety away from risky assets, into safer assets such as treasuries, bonds, or JGBs.

As a result, interest rates as applied by these yield curves, I expect it to be very low for a very long time. In addition, when you look at inflation swap markets, implied inflation rates are very low. And the probability of inflation below 1 percent in both the U.S. and the Euro area, has risen.

Of course, we can never exclude that inflation might shoot up suddenly, but markets certainly assess that that is a small risk at the moment. Indeed, most surveys of inflation expectation, or actual inflation releases, have shown fairly subdued inflation in countries around the world, including both advanced, emerging, and low-income countries.

So, while we can never exclude that inflation might rise suddenly, or that interest rates might spike suddenly, at this time the expectation is that both rates and inflation will remain low for an extended period.

At the same time, some countries might experience higher interest rates because of risks concerns in these countries. So, not all countries benefit as much from the lower yields, as countries such as the U.S., Germany, or japan. Some countries might see somewhat higher interest rates, and that is certainly a risk for those countries.

MS. ELNAGAR: Thank you, Tobias. We have this second question. The Federal Reserve has embarked on an unlimited quantitative easing to support the U.S. economy, but its balance sheet has also grown rapidly.

Therefore, what are the risks to emerging markets and developing countries? Will the capital flow shock be more severe? And for China, we see during the outbreak the foreign investors adding to their holdings of Chinese bonds. Do you think this reflects that investors take China yuan assets as safe haven assets during the recession? Thank you.

MR. ADRIAN: Yeah, thanks. These were two questions. So, the first question is about the Federal Reserve balance sheet policy, and the implications for emerging markets.

The Federal Reserve has embarked on asset purchases of large size with an expectation that those asset purchases are going to continue. Furthermore, the Federal Reserve has put into place a number of special facilities to buy riskier assets as well, including corporate bonds.

These asset purchases support financial conditions, i.e., they help easing financial conditions, not just in the U.S., but also around the world, as financial conditions are globally very tightly interconnected.

So, the easing of The Fed alongside the easing of other central banks, such as the ECB, The Bank of England, The Bank of Japan, and many emerging markets central banks around the world. This easing of monetary policy is leading to an easing of financial conditions, and that is already benefiting emerging markets, as the easier financial conditions are transmitted around countries.

Turning to the question about China. So, China was, of course, the first country to be hit by this horrendous health crisis, and it reacted early by putting into place aggressive containment measures. So, that led to a much earlier contraction of the Chinese economy, compared with advanced economies, or other emerging markets.

At the same time, the Chinese economy is now getting back and is lifting containment measures so that people can get back to work.

Throughout this period, financial conditions in China didn’t tighten as sharply as financial conditions tightened in other parts of the world. And this can be attributed to the very aggressive measures both in terms of health measures, as well as in terms of financial policies, fiscal policies, and monetary policies.

And so financial conditions were fairly contained and associated with an inflow of capital into some asset classes of China.

In total on net, the portfolio flows, though, have been somewhat negative. So, they have been trending up and down, but the cumulative portfolio flows year to date have been somewhat negative, and there are now inflows that are coming back.

MS. ELNAGAR: Okay, we have another question on China, so let's take this one. What's your take on the Chinese authorities’ response to COVID-19 pandemic, particularly on the policy fronts of monetary and financial systems given the worldwide recession caused by the pandemic? What's your advice for Chinese authorities to stabilize the economic recovery and address financial risks?

MR. ADRIAN: Yeah. This crisis needs a multi-pronged approach. The first order are, of course, healthcare policies. So, health has to be the first objective of authorities.

Secondly, targeted fiscal policies have been very successful. The containment measures are shutting down production and are shutting down cash flows. So, fiscal transfers to prevent firms from collapsing and defaulting, and shutting down, and to keep households going in terms of their cash flow have proven very successful.

So, health, fiscal policy, thirdly, of course, is monetary policy. Monetary policy in China, along with many other countries around the world, has been expansionary and that has helped to lift economic activity.

Finally, financial policies that are targeting particularly banks and their financial markets, are aimed to lead to a loan restructuring in this very particular crisis, which is expected to last only a couple of months. So, a restructuring of loans might make sense for many banks in many countries.

MS. ELNAGAR: Thank you, Tobias. We encourage our followers to send their questions while we’re answering the second question. How does the IMF assess the performance of the global banking system now, versus the time of the global financial crisis in 2008?

MR. ADRIAN: The banking system has much more capital, and much more liquidity than it had at the onset of the 2008 crisis. Capital levels have increased dramatically as regulations of the banking system have tightened.

Supervisors and the IMF have spent the past decade running supervisory stress tests and FSAP stress tests, and those have shown that banks are resilient to very adverse economic scenarios.

Today, of course, we are in a very adverse economic scenario, and under the WEO baseline we do expect that most banks and most banking systems are going to be stable.

Of course, some banks -- in every country there's a weak tail of banks, and in some countries banking systems might be weaker than in other countries. And furthermore, some countries might be hit particularly hard by this crisis.

So, there might be some additional struggles in some banking systems, and for some banks around the world. But in general, banks are in a much better place today than they were at the onset of the 2008 crisis.

MS. ELNAGAR: Thank you, Tobias. We are going a couple of other questions. So, first, when you say the IMF is ready to assert the full weight of its resources, what do you have in mind? Is the issue of SDRs now urgently needed to preserve financial stability by underpinning weaker countries?

The second is, given the lack of cooperation so far, how worried are you about countries not coming together, and what might that look like? Thank you.

MR. ADRIAN: Absolutely, so what we have seen already in this crisis is that countries have actually come together. Just this morning the G7 issued a statement indicating that it was working at debt relief for the poorest countries around the world.

As a matter of fact, Kristalina Georgieva, the Managing Director of the IMF, announced yesterday that the IMF is going to work on debt relief for 25 of the poorest countries around the world.

So, there's quite a bit of momentum around this idea that the low-income countries, the poorest, and some of the hardest hit countries around the world are going to get some amount of debt relief; at least, some on a temporary basis, some on a permanent basis.

The IMF is working very actively with its membership to help countries. The IMF is there to support its membership of 190 countries in this crisis and these times of extreme economic and human adversity.

We have a total lending capacity of a trillion dollars, and we are working on utilizing that lending capacity.

We have received a record number of requests, of countries that have come to the IMF, to request lending and to request funding, and we have received over 90 countries. So, more than half of our membership has come to us to request this funding. We are working very actively to help our membership to get through this crisis.

There are a number of discussions around an expansion, a further expansion, of The Fund’s lending capacity and of phasing in new types of programs. But it's too early to say where these discussions are going to end up.

MS. ELNAGAR: Thank you, Tobias. We have another question. What areas due diligence should banks pursue to mitigate heightened risks of money laundering and other forms of corruption?

MR. ADRIAN: Thanks for this question. We have seen, indeed, that in this time of crisis, criminals are taking advantage of the weakness and the stress that is put onto banking systems. In fact, the number of cyberattacks is on the rise since the outbreak of the COVID-19 attack.

This is particularly worrisome, threatening, and sad. And we recommend that supervisors around the world take additional precaution to make sure that their banking systems are safe. This is very, very important because many employees around the world are working from home. And so security weaknesses might be exposed in this environment where staff are not in their usual office locations, but are working from home. So, operational risks, cyber risks, and other crimes are of particular concern to policymakers and, in particular, to bank supervisors and regulators.

MS. ELNAGAR: Thank you, Tobias. We have another question on the actions taken by the ECB and whether it is enough. Should they take extra measures?

MR. ADRIAN: The ECB has taken aggressive measures. It has phased in a special purchase program that is aimed at stabilizing the European economies. And it's engaging in expansionary monetary policy to help European economies. I am confident that the ECB is going to take any additional measures that might be necessary to sustain European economic activity.

Let me to turn to Fabio Natalucci, my colleague who is online, who might want to add to the ECB's policy arsenal.

MR. NATALUCCI: Yeah, so as you said, -as Tobias said, the ECB has taken a number of actions both to a more conventional monetary policy, as well unconventional monetary policy. And it's important at this point that policy action from the monetary policy side -- so accompanied also by fiscal -- the fiscal action. And that's, I think, one lesson that we have learned looking across countries where there is a combination of monetary policy -- and, again, the ECB had taken bold action to address the impact of the virus where you get the maximum impact on policy when that is combined also with fiscal policy as well with financial policies.

MS. ELNAGAR: Thank you, Fabio.

We have something -- another question for emerging markets. What is your advice to emerging markets and developing economies as they confront unprecedented capital flows? Is there anything new on the Integrated Policy Framework?

MR. ADRIAN: Thanks for that question. The Integrated Policy Framework is a work agenda by Fund staff, which has not yet been fully rolled out. So, concerning capital flow measures and capital flow policies, the current institutional view that was phased in about five years ago, is the current policy framework.

We have, indeed, seen that capital outflows from emerging markets have been large. More than 100 billion have flown out, and that's a record number. It's much larger, much faster than in the 2008 crisis. It's reflective of the general risk aversion of investors. They have allocated away from risky assets into safe assets, such as cash, or bills, or money market instruments. And so, emerging markets that are often judged to be riskier have been hit by these capital outflows.

Emerging markets should take policy measures along four dimensions. First of all, aggressive healthcare measures are key. The virus needs to be contained. Secondly, targeted large fiscal policies where fiscal policy space is available, can help to mitigate the economic impact of the health containment measures.

Third, monetary policy measures are key and in many emerging markets, there are deflationary pressures at the moment so that there's room to cut interest rates and to ease monetary policy. Indeed, the majority of emerging markets have already eased monetary policy. We have just seen this morning that South Africa eased monetary policy.

And fourth, financial policies have to be aimed at banks and other financial institutions using the levels of capital and the levels of liquidity that they have accumulated in good times. So, some of that capital can be drawn down and that is perfectly consistent with regulatory standards and accounting standards.

MS. ELNAGAR: Thank you. This question was also on Mexico. So I -- this answers his question.

We ask our viewers to have all questions in at this moment. We have two more minutes to wrap up this. So, if you have no other questions, we ask -- Tobias, thank you very much, Tobias for this. We wish you health. We wish you safety. Tobias, final word?

MR. ADRIAN: Yeah, let me just reiterate that we are facing an unprecedented crisis. And it is key to take aggressive policy steps to contain the health threat, to contain the economic threat, and to contain the financial stability threat. We are going into this crisis with a banking system that has more capital and liquidity than in previous crises. And, hopefully, the aggressive policy measures that have already been rolled out around the world will help to get us to get our membership through this crisis. The IMF stands ready to help all of its membership through its lending capacity to get through this horrendous crisis.

I hope that you are healthy and safe and please watch out for your health. Thank you very much.

MS. ELNAGAR: Thank you, Tobias. Thank you, Fabio. Thank you.