Comments on IMF Global Financial Stability Report
IMF has just released its September 2006 issue of Global Financial Stability Report . Both IMF and BIS continue to provide a well focused and timely research on global current issues. It is high time indeed for the National Statistical Offices to network together and create Global Statistical Office, that will properly measure cross-border transactions flows as well as properly take into account the most precious and productive assets of the XXI century, intellectual capital.
While we will find out more about IMF economic forecasts in WEO that is due on 14 Sep, IMF has already mentioned that downside risks to future growth increased significantly, as described in Rodrigo Rato speech. IMF is far from become a Dr Doom, as this nickname has already been occupied for some time by Nouriel Roubini, who in his recent posts predicts a housing market Armageddon and a subsequent US recession, possibly a great one. Time will tell, housing prices’ index put together by Robert Shiller (see below) indeed shows that housing prices have a long way to go down, maybe a long, long way, and the farewell paper by former Fed chairman Greenspan leaves few doubts, US consumer will feel the pain, and when US consumer sneezes, the world catches the flu, or at least it used to be that way. By the way, August data on housing foreclosures in the U.S. shows 115,292 properties in some stage of foreclosure, a 24 percent increase from July and 52 percent increase from August last year.
What IMF says about this Dr Doom scenario. It says:
“According to the global forecast presented in the September 2006 World Economic Outlook, the most likely outcome will be a continuation of solid growth and contained inflation. The normalization of monetary policy in the key market economies is expected to proceed along the lines already reflected in market pricing. More broadly, favorable global financial market conditions appear to be consistent with the World Economic Outlook’s baseline scenario.”
But IMF’s “it will be all-right” statement is hedged with the following:
“However, as outlined in the World Economic Outlook, there are risks to the global economic outlook that have tilted to the downside. They include an intensification of inflation pressures,requiring more monetary tightening than currently expected; further increases in oil prices because of ongoing geopolitical uncertainties; and a more rapid cooling-off in the U.S. housing market, leading to a pronounced slowdown of the U.S. economy. The potential for a disorderly unwinding of global imbalances remains a concern. Under these risk scenarios, international financial markets could undergo more severe corrections, especially because markets appear to be pricing in the baseline growth scenario with little provision for risk. Indeed, term structure and credit risk premiums have been at record lows. Financial volatilities have also remained low from a historical perspective, even though volatility increased somewhat in May-June. In addition, markets are concerned about the possibility of illiquid market conditions for some of the new and complex financial instruments, such as structured credit products.”
What I think on the range of possible outcomes? In line with my view that a central banker should communicate not what he knows, but what does not know it think that:
- if commodity prices fall deep enough, it may cushion the housing-driven drop in US consumer sentiment, and while technical factors (double-top) would support further oil price decline towards mid 50s (and never mind the Jack discovery, more Jacks are needed just to keep the current level of oil output as nicely commented by James Hamilton, medium term prospects suggest that price above 50 is here to stay, unless Dr Doom is right and we get a Great Recession.
- we do not know to what extent new global economy can deal with shocks such as unraveling of global imbalances or US housing bubble burst, this time around it may just be different as companies now have much more options than before (offshoring, out-tasking, process reengineering, Steven Roach’s global labor market arbitrage and many more), in other words corporates’ scope to raise productivity in tough times if now greater than ever thanks to massive ICT deepening.
- while in tough times private investors may shy away from risky assets, and pointed by Guillermo Calvo and Ernesto Talvi calvo_talvi_on_global_imbalances_resolution.pdf some emerging markets may experience sudden stops if their fundamentals fail to shine, at the same time world biggest assets managers (central banks) will continue to diversify away from safe heaven. What would be the net impact, who knows. Just keep watching new private equity deals that oil producing countries jump into, by the way, Bill Gross funds have already been dwarfed by PBoC holdings, and in no time Kohlberg, Kravis, Roberst and Co. deals may be dwarfed by oil barbarians at the gate. Or think about Government of Singapore Investment Corporation (manager of the seventh-largest currency resrves) that earned on average 9.5% since its inception and has just announced that it will increase emerging markets weighting from 15 to 20 percent. We do not know whether the expectations that central banks will continue to move towards more return based strategy may create a moral hazard problem for the private sector investors, or call it a “forex reserves put”. In other words, if private sector risk appetite stays high they win, if risk appetite fades away they are saved by central banks’ strategy. I think that Mike Dooley would like this term, as it would keep his “new Bretton Woods” hypothesis afloat for a bit longer. By the way I was with him on the panel on “Global imbalances: hard or soft landing, implications for monetary policy” at the CEPR/ESI/NBP conference held on 1-2 September at the National Bank of Poland conference_programme. You may guess what Mike was saying, or if you are not sure read his six NBER papers. My contribution is here .