G-20 chiefs confront growing economic threats

Tokyo

THE global economy has not recovered as well as expected from the crisis of 2008 and now renewed strains in the international financial system are adding to concerns about the future, G-20 financial leaders will hear at their two-day meeting in Istanbul starting on Monday.

Finance ministers and central bank governors from the world's score of leading advanced and emerging economies will be given a series of warnings from the IMF, the OECD and the Institute of International Finance (IIF) on the growing threats to economic and financial stability.

On the economic front, a new sense of urgency is expected to enter the debate with the IMF arguing that continued downward revisions of global economic growth point to a deeper malaise than cyclical downturn and that output may have stalled in the absence of structural economic reforms.

From the OECD, the finance and central bank heads are expected to hear that persistently weak demand is pulling potential growth down and that the global economy faces risks of persistent stagnation. Severe job losses and widening income gaps are undermining economic recovery.

But renewed threats to the health of the global financial system could top the list of concerns, analysts say, coming seven years after a crisis among the world's leading banks and financial institutions brought the system close to its knees and sent the global economy into a spin.

In a special surveillance report published ahead of the G-20 meeting, the IMF says that "market volatility has increased and there have been adjustments in credit and currency markets". It draws attention to several areas of particular concern. "The currencies of several oil producers in emerging economies have depreciated sharply since June and there was an increase in volatility in bond, equity and currency markets. Risk-off behaviour in several emerging economies led to depreciations even for oil importers. This may create balance sheet tensions in some emerging economies, (with) substantial foreign debt loads built by corporations."

Corporate earnings are under pressure, the IMF notes. "Prospects for lower earnings have already been reflected in equity prices for companies in the oil and gas sectors, which fell by 24 per cent over the last six months. Accordingly, a significant decline in corporate earnings in energy sector companies is likely to take place." These developments "may have further implications", it adds.

"The exposure of some global banks to oil and gas companies is substantial - between 2 and 8 per cent of total assets for some banks - and an increase in non-performing loans would have an impact on the balance sheet of those banks. As earnings from oil corporations in emerging market exporters decline, equity inflows are likely to fall. Mutual fund flows to emerging markets have (already) fallen."

The IMF also cites "tightening financial conditions in corporate bond markets and emerging economy sovereign bonds" as a further area of concern. "A significant number of US high yield bond issuers are energy companies, which also account for a significant share in the global corporate bond index. This takes place amid weak balance sheets in many energy sector companies in emerging economies."

Strong warnings have been issued also by the Washington-based IIF which suggested that something resembling a perfect storm could be brewing in global financial markets as monetary "easing wars", along with associated currency wars, intensify among major central banks and spread to emerging markets. It warned of the growing risk of bubbles developing in stock and other asset markets as the tide of financial liquidity rises.

The influential institute, which describes itself as the "global association of the financial industry" and which speaks for some 500 leading financial institutions, said that the launch of quantitative easing (QE) programmes by the central banks in the US, Japan, Europe and the UK could force other central banks, including Asian ones, to follow suit, if only to prevent their own currencies soaring in value.

This unprecedented international monetary easing will lead to the sustaining of massive global liquidity and low - even negative - interest rates that could further "heighten uncertainty and market volatility" and create distortions in the financial system, said the IIF. As more countries join the "easing wars", this could lead to "gyrations in major exchange rates" that could threaten global financial stability.

The OECD is expected meanwhile to signal to the G-20 ministers and central bank governors that in major emerging-market economies, growth has become far less impressive in the last year or two, owing to a varying extent to infrastructure bottlenecks, financial sector vulnerabilities and resource misallocation. The slowdown has been particularly sharp in countries most exposed to commodity price developments.