Policymakers Should Address Old Financial Risks, Meet New Challenges

Policy actions have improved global financial stability, reduced acute near-term risks

Policymakers must address old risks, mainly in the euro area, to leave crisis behind

Prevent new risks linked to prolonged monetary easing from becoming systemic

The report focuses on two persistent old risks, which are the legacy of the crisis.

In spite of the recent improvements in market conditions, credit is not adequately flowing in the euro area periphery.

• Small and medium-sized companies, which are the backbone of employment, are particularly affected by the increased cost and limited supply of bank credit.

• The periphery corporate sector is also facing a large debt overhang, which was built up before the crisis. The report identifies a weak tail of listed companies in the periphery that need to reduce their debt over time. The required debt reduction by these companies accounts for a fifth of the total debt of listed periphery corporates analyzed in the GFSR. This poses a challenge to their economies and financial stability.

Bank balance sheet repair has not been completed and progress has been uneven, according to the IMF. Banking systems around the world are in different stages of repair.

The report shows that the process is largely completed in the United States, but not so in Europe. Many banks in the euro area periphery countries still need to make further progress in strengthening their balance sheets. And important banks in the core countries are still too dependent on wholesale funding markets. Furthermore, the global financial reform agenda is incomplete, prolonging regulatory uncertainty. This leaves banks less willing to lend.

“Addressing the old risks is essential to leave the crisis behind, but it also reduces the need for continued accommodative monetary policies. This will prevent new risks from growing and becoming systemic,” said José Viñals, Financial Counsellor and head of the IMF’s Monetary and Capital Markets Department, which produced the report.

New risks

The report also identifies new risks linked to easy monetary policies that were put in place to fight the crisis. These policies have been essential to support the economy. But their use over a prolonged period may create side effects, such as excessive risk taking and leverage, and asset bubbles.

The IMF said there are signs of new risks in the United Sates. U.S. corporate fundamentals are strong, and leverage is in line with typical historical patterns. But...