By Eugene Davis
There could be contraction in lending by financial institutions, as a result of financial turbulence the world experienced last month, the International Monetary Fund (IMF) has cautioned.
Speaking at a press briefing on Tuesday at the 2023 Spring Meetings in Washington DC, USA under the auspices of the IMF and the World Bank Group, Pierre-Olivier Gourinchas, the Chief Economist and director research said broader markets have remained calm and volatility has been contained including for emerging and developing economies, increasing funding costs and the need to act more prudently however “may push banks to cut down lending further, in a world economic outlook we explore such a scenario and find that it will lead to an additional zero point three percent (0.3%) reduction in output this year.
Yet the financial sector may well be tested even more, nervous investors often look for the next weakest link as they did with Credit Suisse [a global systemic but ailing European bank]”
The Chief Economist further indicated that financial institutions with excess leverage, credit risks or interest rate exposure, too much dependence on short term funding or located in jurisdiction with limited space could become the next target so could countries with weaker perceived fundamentals. The short tightening of global financial conditions is expected to have a dramatic impact on credit conditions and public financing especially in emerging and developing economies.
“It will precipitate large capital outflows, a sudden increase in risk premium, dollar appreciation in a rush towards safety and major decline in global activity that may lower confidence, in such a severe downsize scenario, global growth this year could fall to about one percent (1%). We are entering a tricky phase during which economy growth remains low by historical standards, financial risks have increased, yet inflation has not decidedly turned the corner. Policy makers will need a steady hand and clear communication.”
For Mr. Gourinchas, to be able to contain financial instability, monetary policy should remain focused on bringing inflation down but stand ready to adjust promptly as financial developments might demand, adding that the silverlining is that the contraction in bank lending could partially mitigate the need for further monetary policy tightening.
He also stated that any expectation the central bank will prematurely surrender the inflation fight and would have opposite effect lower in yields, supporting activities beyond what is warranted ultimately complicating the task of central banks. Fiscal policy can also play any active role by cooling off economic activity and tighter fiscal policy would support monetary objectives.
“Appropriate designed fiscal consolidations can help rebuild much needed fiscal buffers and help strengthen financial stability,” he noted.
According to Mr. Gourinchas, the short policy tightening in the last 12 month is starting to have on the financial sector and “we have repeatedly worn that this will not be an easy ride, following a prolonged period of muted inflation and low interest rate, the financial sector had become complacent towards maturity and liquidity mismatches.”
Further, he noted that last year’s rapid policy tightening triggered sizeable losses on term fixed income assets and increased banks funding costs; “the brief in stability last fall in the UK and the recent banking turbulence in the USA illustrate instead that significance vulnerabilities do exist both among banks and non-bank financial institutions and both cases we have recommended quick and strong action and so far, have prevented further instability.
Sub-Sahara Africa facing slow growth
As regards the Sub-Saharan African region, the Fund maintained that it is suffering from a slowing growth to about 3.6percent in 2023 from 3.9percent last year, there is also situation with inflation which is elevated to 16percent but is expected to reduce to about 12.3percent. Another challenge facing the region as a result of elevated food price is that there are large number of people facing food insecurity close to 130m
The Fund in its World Economic Outlook baseline forecast is for growth to fall from 3.4 percent in 2022 to 2.8 percent in 2023, before settling at 3.0 percent in 2024. Advanced economies are expected to see an especially pronounced growth slowdown, from 2.7 percent in 2022 to 1.3 percent in 2023. In a plausible alternative scenario with further financial sector stress, global growth declines to about 2.5 percent in 2023 with advanced economy growth falling below 1 percent.
Global headline inflation in the baseline is set to fall from 8.7 percent in 2022 to 7.0 percent in 2023 on the back of lower commodity prices but underlying (core) inflation is likely to decline more slowly. Inflation’s return to target is unlikely before 2025 in most cases.