Are we safer a decade after the Global Financial Crisis? This is the heading and theme of this month’s IMF Global Financial Stability Report which marks 10 years since the GFC. The very fact that question needs addressing seems troubling in itself after a decade of financial engineering and regulatory reform.
The hundred pages of useful charts, data and commentary are focused on two key themes. Chapter one highlights how “short-term risks to the financial system have increased somewhat over the past six months” seemingly answering their own questions with an ‘in many ways probably not’. Chapter two is a little more positive focusing on the regulatory reforms and “finds that the broad agenda set by the international community has given rise to new standards that have contributed to a more resilient financial system—less leveraged, more liquid, and better and more intensively supervised” but highlighting needs for further tools to contain systemic risk and new risks as technology advances.
There were a number of other noteworthy comments. First the report asserted that “asset valuations remain stretched across several sectors and regions” and that “the stronger dollar and higher US interest rates have made overseas borrowing more expensive for emerging markets, especially those with larger credit needs and weaker economic conditions or policy frameworks.” Recently, as the US dollar and rates have risen, one can see this contrast in the steady credit spreads in countries like China and Chile versus ballooning premiums in countries like South Africa, Brazil and Turkey.
Second, the report identifies areas where “risks could rise sharply” including: escalating trade tensions, no-deal Brexit, renewed concerns over-indebted euro area fiscal policy and a faster-than-expected normalization of monetary policy. Each of these risks unsticking the fragile economies that have been held together in part through accommodative monetary policy; policies that have helped allow “In economies with globally systemically important financial sectors, debt owed by governments, companies, and households [to rise] from around 200 percent of GDP a decade ago to almost 250 percent today.” This trajectory of further leveraging from an already excessively leveraged point a decade ago highlights the unsustainability of present market momentum.
Lastly, the IMF writes how “international cooperation is crucial for maintaining global financial stability and fostering sustainable economic growth” which is just what everyone thinks of when reflecting on Trump’s trade wars, Brexit and euro area disagreements... “The risks of rollback, waning multilateralism, and regulatory fatigue are real and could easily undermine the important progress made in improving financial stability.” So just like the regulators, investors too “must avoid complacency”. As we will continue to hark on for another decade - in such times of excessive leverage and manifold uncertainty - steer clear of the heavily indebted: those who would teeter with insolvency if artificial interest rates dried-up, who could lack resources to afford even the next few months of interest let alone the accumulating principals that have been rolled and re-rolled over the past few years.