IMF Warns Of Financial Crisis, Admits Low Interest Rates Spurred Asset Speculation Not Investment

The IMF finally had a “duh” moment in what should have been obvious years ago. The IMF finally realizes that almost zero borrowing costs has encouraged speculation rather than  a hoped-for pick-up in investment.

Now, the IMF warns period of ultra-low interest rates poses fresh financial crisis threat. 

 The Washington-based IMF said that more than half a decade in which official borrowing costs have been close to zero had encouraged speculation rather than the hoped-for pick up in investment.

In its half-yearly global financial stability report, it said the risks to stability no longer came from the traditional banks but from the so-called shadow banking system – institutions such as hedge funds, money market funds and investment banks that do not take deposits from the public.

José Viñals, the IMF’s financial counsellor, said: “Policymakers are facing a new global imbalance: not enough economic risk-taking in support of growth, but increasing excesses in financial risk-taking posing stability challenges.”

Viñals said the IMF had analysed 300 large banks in advanced economies, making up the bulk of their banking system. It found that institutions representing almost 40% of total assets lacked the financial muscle to supply adequate credit in support of the recovery. In the eurozone, this proportion rose to about 70%.

“And risks are shifting to the shadow banking system in the form of rising market and liquidity risks,” Viñals said. “If left unaddressed, these risks could compromise global financial stability.”

IMF Wants More Regulation

Amusing, the IMF concludes “The best way to safeguard financial stability and improve the balance between economic and financial risk taking is to put in place policies that enhance the transmission of monetary policy to the real economy – thus promoting economic risk taking – and address financial excesses through well-designed macroprudential measures.” 

The IMF wants tougher supervision of banks, requirements on them to hold more capital, and curbs on lending to specific sectors such as housing.

Curiously, low interest rates were the problem but the solution is low interest rates and more macro controls including “policies that enhance the transmission of monetary policy to the real economy – thus promoting economic risk taking”.

It’s a financial axiom that central banks can make money available and set the rates, but they cannot dictate were it goes. Yet, the IMF just now seems to be figuring that out.

As for central bank sponsored “risk taking”, haven’t we seen enough already?