$4 trillion debt binge could spark new global crisis, IMF warns

smh.com.au/business/the-economy/4-trillion-debt-binge-could-spark-new-global-crisis-imf-warns-20151007-gk3wae.html

October 8 2015
Governments and central banks risk sparking a fresh global financial crisis, the International Monetary Fund has
said, as it called time on a corporate debt binge in the developing world.

With the world facing a "triad of policy challenges", the International Monetary Fund tells the Fed
there's no hurry to raise rates. Photo: Bloomberg
Emerging market companies have over-borrowed by an estimated $US3 trillion ($4.2 trillion) in the last decade,
threatening to trigger a sharp capital crunch and capital outflows in economies that have already been hit hard by
low commodity prices, the fund warned on Wednesday in its latest Global Financial Stability Report.
And there are also risks to global stability from advanced economies, where a messy withdrawal of stimulus
measures could start a "vicious cycle of fire sales, redemptions, and more volatility", according to the Fund. The
US Federal Reserve has said it is on track to raise rates for the first time in almost a decade by the end of this year.
Janet Yellen's Fed is widely expected to start raising US interest rates in December. Photo: Bloomberg
"The global financial outlook is clouded by a triad of policy challenges: emerging market vulnerabilities, legacy
issues from the crisis in advanced economies, and weak systemic market liquidity," the IMF concluded in its report.
The fund warned that there was no margin for error for policymakers navigating these hazardous risks.

Easy credit
Corporate debt in emerging markets economies has quadrupled over the past ten years. The over-borrowing now
adds up to an average of 15 per cent of their gross domestic product, and 25 per cent of China's GDP, the IMF said.

1/2

But emerging markets where companies tapped easy credit to soften the impacts of the global financial crisis are
now on the verge of a credit downturn, the IMF said.
Many of the borrowers are state-owned enterprises and
the lenders are often local banks.
"Corporate and bank balance sheets are currently
stretched," the IMF warned. "Immediate prudential
attention is needed."
China's exposure to credit risks as it transitions to a more
market-based economy is especially worrisome, the Fund
said. The stark warning comes after China's August stock
market crash and sudden devaluation in August rattled
global markets.
The IMF said China should improve access to it equity
market to provide companies an alternative to bank
financing.

Telling the Fed to hold off

The IMF estimates there is around $US1.5 trillion in embedded debt in US bond funds through derivatives, which
could unwind dramatically if the Fed's interest rate hiking provokes liquidity shocks.
Bankers, investors, as well as regulators from the Fed have expressed concerns about bouts of bond market
volatility, particularly after a "flash crash" on October 15, 2014. Many market participants have blamed the volatility
on crisis-inspired rules requiring higher capital buffers for banks, less proprietary trading and stress tests that have
reduced liquidity in markets.
The IMF's warning comes after years of near-zero interest rates and massive stimulus programs in the United
States and Europe that have failed to return growth to pre-crisis levels.
"Monetary policies in key advanced economies must remain accommodative and responsive," the IMF said.
The report called on the US Federal Reserve to hold off on its first interest rate hike in nine years and for the
authorities in the eurozone and Japan to continue with unprecedented stimulus measures. "Managing any outbreaks
in financial contagion will require nimble and judicious use of available policy buffers," the report added. The IMF
painted a picture of a brittle financial system that was coming to the end of a historic period of cheap liquidity
propped up by low rates. These benign conditions are set to evaporate as the credit cycle tightens in emerging
markets.
It recommended the Federal Reserve hold off on raising rates for the first time in nine years until it sees additional
signs that inflation is quickening. Subsequent hikes should be gradual and well communicated.
"Managing any outbreaks in financial contagion will require nimble and judicious use of available policy buffers," the
report said. The IMF painted a picture of a brittle financial system that was coming to the end of a historic period of
cheap liquidity propped up by low rates. These benign conditions are set to evaporate as the credit cycle tightens in
emerging markets
The Federal Reserve has faced criticism for not providing more clarity on when it will raise interest rates, a hotly
anticipated move that has caused volatility in emerging markets.

2/2