Scale of the disorder emerges

Huge estimated losses released by the IMF strengthen calls for urgent policy changes to restore confidence in the financial sector, writes Ashley Seager.

The International Monetary Fund (IMF) has raised its estimate of losses from the global financial crisis to the US banking system to about $1,4-trillion, 45% up from the $945-billion it estimated in April and reaffirmed just two months ago.

The figures, released in its twice-yearly Global Financial Stability Review, gave fresh impetus to the push for a comprehensive and coordinated international response to the crisis, which the IMF said had become disorderly and more damaging than previously thought.

It also estimated that the global banks needed to raise $675-billion in new capital in the next few years.
The IMF’s managing director, Dominique Strauss-Kahn, said the report “shows how serious a crisis we currently face”.

“The time for piecemeal solutions is over. I therefore call on policymakers to urgently address the crisis at a national level with comprehensive measures to restore confidence in the financial sector. At the same time, national governments must closely coordinate these efforts to bring about a return to stability in the international financial system.”

The report warned that a “failure to do so could usher in a period in which the ongoing deleveraging process becomes increasingly disorderly and costly for the real economy”.

It added that the process of deleveraging, where banks unwind all their worthless sub-prime mortgage exposure, would be “challenging” but the process was both “necessary and inevitable”.

The report emerged as central banks around the world announced measures to thaw frozen money markets caused by the reluctance of banks to lend to each other. The US Federal Reserve said it would start buying commercial paper – which provides short-term funds for companies – to try to ease the financing difficulties of the corporate sector.

In Britain, a £40-billion auction of three-month funds was undersubscribed even though the Bank of England had announced on Friday that it would accept a wider range of collateral than before. Analysts said it was possible that British banks were running short of the required collateral such as mortgage loans as many have been depositing it in the Bank’s existing special liquidity scheme.

Jaime Caruana, head of the IMF’s monetary and capital markets department, which authored the report, said: “The global financial system has undergone unprecedented turmoil in the last few months, and the situation has worsened considerably since spring.”

He welcomed the fact that countries were starting to discuss comprehensive international solutions, but added: “Concrete actions, however, are needed to tackle insufficient capital, falling asset valuations, and a dysfunctional funding market.

“Such a comprehensive approach, if consistent among countries, should be sufficient to restore confidence and the proper functioning of markets, and avert a more protracted downturn in the global economy.”

The IMF noted that the United States remained the epicentre of the financial crisis, with its housing market continuing to decline and a wider economic slowdown contributing to a further deterioration in the quality of existing loans.

But it warned that Europe also faced big problems because many of its own housing markets were in retreat.

Drawing on its experience of earlier crises, the IMF recommended that national authorities consider five ways to help restore confidence in what it calls “these exceptional circumstances”:

  • Employ measures that are comprehensive, timely and clearly communicated.
  • Aim for a consistent and coherent set of policies to stabilise the global financial system across countries.
  • Ensure rapid response on the basis of early detection of strains in order to contain systemic repercussions.
  • Assure that emergency government interventions are temporary and taxpayer interests protected.
  • Avoid losing sight of the objective of a more sound, competitive, and efficient financial system going forward.

Punish the reckless lenders, says Swedish regulator
Bank executives responsible for reckless lending should be punished under criminal law and face fines, according to a politician who rescued Sweden’s banking system from collapse in the 1990s.

In an interview, Bo Lundgren, director general of Sweden’s national debt office, the country’s financial regulator, said US proposals to cap bankers’ pay as part of the $700-billion bail-out did not go far enough.

He said laws should be introduced in the US and Europe making it a criminal offence for bankers to lend irresponsibly. He also proposed that banks should be made subject to legally-binding guidelines on lending.

Lundgren was Sweden’s finance minister in the early 1990s when a property slump put the economy into recession.

“In the US, the bail-out’s condition on capping executive pay is for show,” he said. “Legislation should be introduced so that if any bank is lending recklessly, executives could be punished by criminal law or be forced to pay damages.”

He criticised Ireland’s decision to offer a 100% guarantee to protect deposits. “I was astonished by what the Irish government has done,” he said. “This distorts competition and the integration of capital markets across Europe. If one country in Europe offers a blanket guarantee, it puts pressure on everyone else to do the same.” To stave off a collapse in Sweden, Lundgren nationalised banks in return for taking on their toxic loans.

The total cost of the bail-out was £6-billion, most of which, he said, has been recovered by selling stakes in the banks.

He said the UK should not follow the US example of buying up banks’ toxic assets without taking stakes in them. “You will never win an election for measures to support banks but taking stakes in banks would be more popular. This is because taxpayers stand to gain in the future if the banks’ share prices rise.”– Tim Webb,

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