The IMF released it’s 2020 edition of the global financial stability report on the backdrop of the Corona crisis and economic impacts. According to the report the pandemic poses unprecedented health, economic, and financial stability challenges. For instance, bank’s resilience may be tested in some countries in the face of large market and credit losses. Wide-ranging fiscal, monetary, and financial policies, as well as strong international cooperation, remain essential to safeguard economic and financial stability and to prevent the emergence of adverse macro-financial feedback loops, the authors underline.
IMF GFSR – Chapter 1
14 April 2020
Source: International Monetary Fund
From the foreword:
The necessary containment measures to limit the spread of Covid-19 are causing a dramatic decline in economic activity. As a result, in only three months, the 2020 outlook has shifted from expected growth of more than 3 percent globally to a sharp contraction of negative 3 percent — worse than the output loss seen during the 2008–09 global financial crisis. The ultimate impact of the crisis on the global economy, as well as the timing of a recovery, is highly uncertain, writes Tobias Adrian, Financial Counsellor of the IMF in the foreword. This crisis presents a very serious threat to the stability of the global financial system. A prolonged period of dislocation in financial markets could trigger distress among financial institutions, which, in turn, could lead to a credit crunch for nonfinancial borrowers, further exacerbating the economic downturn, he carried on.
From the summary:
The Covid-19 pandemic presents a historic challenge. In mid-February the prices of equities fell sharply, from previously overstretched levels. In credit markets, spreads skyrocketed, especially in risky segments. … Oil prices plummeted in the face of weakening global demand and the failure of the OPEC+ countries to reach an agreement on output cuts, adding a further leg to the deterioration in risk appetite. These volatile market conditions led to a flight to quality, with yields on safe-haven bonds declining abruptly. …
Decisive monetary and fiscal policy actions, aimed at containing the fallout from the pandemic, have stabilized investor sentiment. Nevertheless, there is still a risk of a further tightening in financial conditions that could expose financial vulnerabilities. … Emerging and frontier market economies are facing the perfect storm. … The loss of external debt financing is likely to put pressure on more leveraged and less creditworthy borrowers. This may lead to a rise in debt restructurings, which could test existing debt resolution frameworks.
Asset managers may face further outflows from their funds and may be forced to sell assets into falling markets, potentially exacerbating price moves. High levels of borrowing by companies and households may lead to debt distress as the economy comes to a sudden stop. … The resilience of banks may be tested in some countries in the face of large market and credit losses, and this may cause them to cut back their lending to the economy, amplifying the slowdown in activity.
This historic challenge necessitates a forceful policy response. … Large, timely, temporary, and targeted fiscal measures are necessary to ensure that a temporary shutdown of activity does not lead to more permanent damage to the productive capacity of the economy and to society as a whole.
Central banks globally have taken bold and decisive actions by easing monetary policy, purchasing a range of assets, and providing liquidity to the financial system in an effort to lean against the tightening in financial conditions and maintain the flow of credit to the economy. … Central banks may also consider further measures to support the economy during these challenging times.
Policymakers need to maintain a balance between safeguarding financial stability and supporting economic activity.
- Banks. In the first instance, banks’ existing capital and liquidity buffers should be used to absorb losses and funding pressures. In cases where the impact is sizable or longer lasting and bank capital adequacy is affected, supervisors should take targeted actions, including asking banks to submit credible capital restoration plans. Authorities may also need to step in with fiscal support to help borrowers to repay their loans and finance their operations, or provide credit guarantees to banks. Supervisors should also encourage banks to negotiate, in a prudent manner, temporary adjustments to loan terms for companies and households struggling to service their debts.
- Asset managers. To prudently manage liquidity risks associated with large outflows, regulators should encourage fund managers to make full use of the available liquidity tools where it would be in the interests of unit holders to do so.
- Financial markets. Market resilience should be promoted through well-calibrated, clearly defined, and appropriately communicated measures, such as circuit breakers.
… Multilateral cooperation is essential to help reduce the intensity of the Covid-19 shock and its damage to the global economy and financial system. Countries confronting the twin crises of health and external funding shocks may additionally need bilateral or multilateral assistance to ensure that health spending is not compromised in their difficult adjustment process. Official bilateral creditors have been called upon by the IMF Managing Director and the World Bank President to suspend debt payments from countries below the International Development Association’s operational threshold that request forbearance while they battle the pandemic.