"It's not 2008": the IMF considers the financial crisis contained

With a small mouth, with some fear, crossing our fingers and warning over and over again about possible ghosts, risks and challenges, but the economists of the International Monetary Fund (IMF) believe that the storm has abated.

Financial instability is "contained," says Pierre Olivier Gourinchas, economic adviser and director of analysis.

“It's not 2008,” says Tobias Adrian, financial adviser, referring to the year that the global financial crisis that led to the Great Recession broke out.

The turmoil caused by the crisis at Silicon Valley Bank and Signature Bank in the United States and at Credit Suisse (the first global systemic entity to fall since the financial crisis) in Europe is bad news.

There is no doubt that they have had an impact on financial conditions, and the IMF believes that they are likely to weigh on growth, but the most dramatic scenarios have not materialized.

"The forceful response of the authorities to tackle systemic risks has calmed the nervousness of the market," says the IMF in its

presented this Tuesday in Washington.

According to the IMF, the fundamental question facing investors and policymakers is whether these recent events are a prelude to more systemic stress that will test the global financial system, a kind of canary in the mine, or simply a manifestation isolated from the difficulties caused by the tightening of monetary and financial conditions after more than 10 years of abundant liquidity.

The IMF stresses that the financial system is more solid and resilient thanks to the regulatory changes approved since the previous financial crisis, but there are concerns about the weaknesses of some entities and about shadow banking.

The risks have increased with the rapid rise in interest rates to contain inflation.

Word on Wall Street is that the Federal Reserve raises rates until something breaks.

“Historically, these strong rate hikes by central banks are often followed by tensions that expose the flaws in the financial system,” Tobias Adrian argues more academically.

The devaluation of the Mexican peso, the Asian crisis, the bursting of the technology bubble, the collapse of the LGTM fund or the junk mortgage crisis are some examples.

Differences with the Great Recession

But according to the IMF's financial adviser, while the banking turmoil has increased risks to financial stability, its roots are fundamentally different from those of the global financial crisis.

“Prior to 2008, most banks were woefully undercapitalized by today's standards, had much less liquid assets and were much more exposed to credit risk,” says Adrian, adding that there was also excessive maturity transformation. and of the credit risk of the financial system in general, a high degree of complexity of financial instruments and risk assets financed with short-term loans.

The recent turmoil is different, continues the IMF's head of capital markets.

The banking system has much more capital and financing available to deal with adverse shocks, off-balance sheet banks have been dismantled and credit risks have been curbed thanks to stricter post-crisis regulation.

What has happened has been a clash between the sharp and rapid rise in interest rates and rapidly growing financial institutions that were not prepared for that rise.

The IMF maintains that financial conditions have tightened less than might have been expected at the start of the storm.

Although bank prices have fallen, the stock market has hardly been affected and the slight increases in credit spreads for some companies have been offset by the fall in interest rates in the markets.

Investors have assumed that there will be fewer increases in official rates, that these turbulences will do part of the job for central banks.

The Fund warns that if this scenario does not come true and inflation refuses to go down, there may be new rate hikes that will catch investors by surprise.

“Deficiencies in surveillance, supervision and regulation must be addressed immediately,” the Fund maintains, in what appears primarily as an errand to the United States, but extends to many other countries.

To contain risks to financial stability, adequate minimum capital and liquidity requirements are essential, even for smaller entities that are not individually considered to be systemically important.

Prudential rules must ensure that banks have capital to face interest rate risk and to protect themselves from hidden losses that could materialize abruptly in the event of liquidity shocks, the agency says.

In any case, if the difficulties in the financial sector have serious repercussions for the economy as a whole, policy makers may need to adjust the monetary policy stance to support financial stability.

In that case, the Fund says, they should clearly communicate their determination to bring inflation back to target as soon as possible, once financial tensions ease.

The IMF sees another lesson to be drawn from the recent financial turmoil: that funding can quickly disappear amid a general loss of confidence.

A change in the deposit patterns of the different entities could increase financing costs, and with this limit their ability to grant credit to the economy.

“The recent banking turmoil has also demonstrated the growing influence of mobile apps and social media in spreading sudden financial asset allocations.

Deposit withdrawals spread around the world at lightning speed, which could indicate that in the future banking stress could spread more quickly and be less predictable”, adds Adrian.

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