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Emerging Markets

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If pressures on emerging market economies were to broaden and intensify, financial stability risks would increase significantly. Our analysis suggests that—in the medium term—there is a 5 percent probability that emerging market economies will experience portfolio debt outflows of $100 billion or more. That is broadly similar in magnitude to outflows experienced during the crisis. There are other ways stability risks could rise sharply. These include a broader escalation of trade tensions, a no-deal Brexit, renewed concerns about fiscal policy in some highly indebted euro area countries, and a faster-than-expected normalization of monetary policy in advanced economies. Any of these concerns could expose the financial vulnerabilities that have grown over years of accommodative monetary policy. In economies with globally systemically important financial sectors, debt owed by governments, companies, and households has risen from around 200 percent of GDP a decade ago to almost 250 percent today. Emerging market economies are borrowing more in international markets and face the risk that they will be unable to refinance a substantial portion of their foreign currency debt. Banks are exposed to these highly indebted borrowers, and some global banks have large holdings of more illiquid and opaque assets. Asset valuations remain stretched across several sectors and regions, and underwriting standards are deteriorating. This accumulation of vulnerabilities raises the urgency for policymakers to step up efforts to bolster the financial system: Micro-prudential, or firm level, policies should aim to strengthen bank balance sheets against solvency and liquidity risks. Broad-based macroprudential tools, such as the countercyclical capital buffer (which aims to increase bank capital when borrowing is rising in the economy), should be used more actively in countries where financial conditions remain accommodative and vulnerabilities high. Financial stability also requires new macroprudential tools to address vulnerabilities outside the banking sector, for example, to ensure sound underwriting standards in nonbank credit intermediation and to tackle liquidity risks by asset managers. For emerging market economies, reducing vulnerabilities and maintaining robust policies and sound policy frameworks remains critical. This includes building and maintaining adequate foreign exchange reserves and using these reserves judiciously. Regulators and supervisors must respond to new threats, including cyber risks. They should also support fintech s potential contribution to innovation, efficiency, and inclusion while safeguarding against risks to the financial system. This is no time for complacency. More proactive measures should be adopted to safeguard financial stability. As noted in Chapter 2 of the Global Financial Stability Report , released earlier, the financial regulatory reform agenda should be completed and a rollback of reforms avoided. And finally, international cooperation is crucial for maintaining global financial stability and fostering sustainable economic growth.

10.14 PM Oct 11th
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