Lower for loooonger

The institution known for being a staunch supporter of easy monetary policy has just realized that things are getting tricky.

As the IMF holds its annual meetings in Washington this week, Thomas Adrian, it's Financial Counselor and Director of the Monetary and Capital Markets department, discussed the latest Global Financial Stability Report, carrying the ominous title "Lower for Longer." Although the institution still believes that with low interest rates "[…] financial conditions have eased, helping contain downside risks and support global growth", it is also increasingly concerned that such conditions have "encouraged investors to take more risks in a quest to achieve their return targets", with "valuations stretched" in some important markets and economies. In particular the IMF sees growing vulnerabilities in the shadow banking sector (non-bank financials), which includes structured finance vehicles, asset managers and finance companies; with vulnerability levels having reached similar levels seen at the height of the global financial crisis. "The search for yield […] has led them to take on riskier and less-liquid securities. These exposures may act as amplifiers to shocks", Mr. Adrian said. But corporate debt, with almost 40% being at risk of default in the eight economies the IMF studied, is also a growing headache.

Unsurprisingly, the response by policy makers should, according to the IMF, not be to get rid of the policies that have caused these excesses in the first place, but to introduce new "macro-prudential tools" to mitigates vulnerabilities. Surely this would take away some of the sharp edges related to the problems highlighted above. But at the same time would it allow other 'invisible' imbalances under the radar of policy makers to continue to build up. It's like putting an obese patient on a high-carb diet but forcing him to take pills to suppress the side effects. The long-term consequences remain unknown.

The IMF also advocates greater multilateral cooperation in several areas, including global (regulatory) reform. We would argue that against the current backdrop of (geo)political tensions between the main global players, better coordination seems rather fanciful. What we do know, however, is that central banks are still leap-frogging each other in easing their policy settings. About 70% of the world's economies, weighted by GDP, have eased monetary policy, according to the Institution. The rate cut by the central bank of South Korea was the latest in this series, taking the Korean official bank rate to 1.25%, back to the historical low we saw in 2016-2017. The KRW weakened slightly despite the widely anticipated move.