New banking rules agreed upon by global financial leaders aren't sufficient to ward off the type of financial crisis the world is still recovering from, the International Monetary Fund warned Wednesday.
To help fix the problem, the fund is proposing new tools to measure the impact a financial institution can have on the system as a whole. Once authorities have a good picture of the systemic importance of a firm, they could then confidently require a company to pay a proportional fee to guard the entire system.
Right now, the entire society foots the bill for a financial crisis that avalanches into a full-blown crisis of the system, instead of the financial institutions themselves. As shown in the crisis, rather than ensuring they'd be able to tread water in a crisis, the individual institutions that make up the financial sector largely relied on the central banks to bail them out.
"We need a tax on financial activities to force this sector to bear some of the social costs of its risk-taking behavior," said IMF Managing Director Dominique Strauss-Kahn. "We need better resolution mechanisms to end the scourge of too-big or too-important to fail [firms], including along the critical cross-border dimension," he said.
The fund's efforts to require a resolution fee, though championed by some members of the Group of 20 largest industrialized and developing economies, have largely been unsuccessful so far. New tools to measure the systemic importance of financial companies may help provide some impetus for the IMF to redouble efforts to promote its proposal at upcoming G-20 and IMF meetings.
The fund has repeatedly warned that sluggish repairs to the world's financial sector are threatening to upset the fragile global recovery and that moral hazard--apathy cultivated when lenders are confident they'll be bailed out--has grown since the financial crisis began. In particular, governments haven't forced financial institutions, including banks, investment houses and insurance companies, to cut out or write down their bad assets, or more fundamentally, even to adequately assess their balance sheets.
The IMF says the new, so-called Basel III rules that set standards for the reserves banks need to hold to cushion against financial-sector meltdowns not only help prevent individual firm failures, but also make the system healthier. But they don't go far enough to protect the entire financial system from future credit crunches, the IMF said in a chapter of the fund's annual Global Financial Stability Report released Wednesday.
The full report will be released next week in advance of the IMF and G-20 spring meetings, when financial leaders from around the world will convene to haggle over how to solve the world's economic ills.
The IMF says larger reserve buffers should lower the risk that multiple institutions will simultaneously face credit squeezes.
But even with the new rules approved last year by the G-20, the fund warns that policy makers haven't established a framework that mitigates system-wide, or systemic, liquidity risk. Part of the problem has been the lack of analysis of how to measure the system-wide risk of a credit shortfall, and the extent to which individual institutions contribute to that risk.
"The Basel III rules do not address the additional risk of such simultaneous shortfalls arising out of the interconnectedness of various institutions across a host of financial markets," the fund said.
For one thing, many financial institutions, such as hedge funds and other institutional investors, aren't included in the new Basel III rules. The IMF says that unless the so-called shadow banking system that operates generally out of regulators' reach comes under greater scrutiny and oversight, many of the problems that precipitated the last global crisis will be left unaddressed.
Also, the IMF found that stress tests using the new Basel standards wouldn't have necessarily alerted regulators to a potential problem. While the IMF complained there's currently not enough publicly-available data to test more short-term liquidity levels, a measure of medium- and long-term funding showed some banks that failed in the last crisis wouldn't have set off alarms.
The fund says it has now developed a three-pronged tool to assess liquidity risks in the system. If regulators were to use it, the IMF's tests could provide concrete advice about how to calculate the amount of any fee or other surcharge to cushion against systemic risk.
To help judge systemic risks and avoid the regulatory pitfalls that helped cause the latest financial catastrophe, the IMF recommended that governments also require better access to financial-sector data. Also, the IMF itself wants greater access to the information so as to better monitor capital markets as it seeks to expand its global economic overseer mandate.
Greater transparency would not only help the market and authorities assess the robustness of individual institutions, it would also allow any potential fees on the industry to be "minimized, better targeted and more efficiently provided," the fund said. The measurements would help regulators ensure they didn't over-burden the industry with costs or socialize it too broadly across the industry.
For example, regulators could reduce the need for an extra insurance premium or tax in cases to address systemic liquidity cushion simply through existing capital standard requirements.
Also, investors and regulators may want firms to provide better disclosure of their systemic risks, as that could ultimately affect profits. Current disclosure requirements don't allow investors to see potential debt vulnerabilities. "In many cases, the liability side of the balance sheet...isn't sufficient to see what kinds of liquidity risks" a firm has, said Laura Kodres, chief of the IMF's Global Stability Analysis Division.
"More information on this would be valuable so that investors and even depositors would have a better idea what kind of liquidity risks their institution is undertaking," she said.
Source: http://online.wsj.com
To help fix the problem, the fund is proposing new tools to measure the impact a financial institution can have on the system as a whole. Once authorities have a good picture of the systemic importance of a firm, they could then confidently require a company to pay a proportional fee to guard the entire system.
Right now, the entire society foots the bill for a financial crisis that avalanches into a full-blown crisis of the system, instead of the financial institutions themselves. As shown in the crisis, rather than ensuring they'd be able to tread water in a crisis, the individual institutions that make up the financial sector largely relied on the central banks to bail them out.
"We need a tax on financial activities to force this sector to bear some of the social costs of its risk-taking behavior," said IMF Managing Director Dominique Strauss-Kahn. "We need better resolution mechanisms to end the scourge of too-big or too-important to fail [firms], including along the critical cross-border dimension," he said.
The fund's efforts to require a resolution fee, though championed by some members of the Group of 20 largest industrialized and developing economies, have largely been unsuccessful so far. New tools to measure the systemic importance of financial companies may help provide some impetus for the IMF to redouble efforts to promote its proposal at upcoming G-20 and IMF meetings.
The fund has repeatedly warned that sluggish repairs to the world's financial sector are threatening to upset the fragile global recovery and that moral hazard--apathy cultivated when lenders are confident they'll be bailed out--has grown since the financial crisis began. In particular, governments haven't forced financial institutions, including banks, investment houses and insurance companies, to cut out or write down their bad assets, or more fundamentally, even to adequately assess their balance sheets.
The IMF says the new, so-called Basel III rules that set standards for the reserves banks need to hold to cushion against financial-sector meltdowns not only help prevent individual firm failures, but also make the system healthier. But they don't go far enough to protect the entire financial system from future credit crunches, the IMF said in a chapter of the fund's annual Global Financial Stability Report released Wednesday.
The full report will be released next week in advance of the IMF and G-20 spring meetings, when financial leaders from around the world will convene to haggle over how to solve the world's economic ills.
The IMF says larger reserve buffers should lower the risk that multiple institutions will simultaneously face credit squeezes.
But even with the new rules approved last year by the G-20, the fund warns that policy makers haven't established a framework that mitigates system-wide, or systemic, liquidity risk. Part of the problem has been the lack of analysis of how to measure the system-wide risk of a credit shortfall, and the extent to which individual institutions contribute to that risk.
"The Basel III rules do not address the additional risk of such simultaneous shortfalls arising out of the interconnectedness of various institutions across a host of financial markets," the fund said.
For one thing, many financial institutions, such as hedge funds and other institutional investors, aren't included in the new Basel III rules. The IMF says that unless the so-called shadow banking system that operates generally out of regulators' reach comes under greater scrutiny and oversight, many of the problems that precipitated the last global crisis will be left unaddressed.
Also, the IMF found that stress tests using the new Basel standards wouldn't have necessarily alerted regulators to a potential problem. While the IMF complained there's currently not enough publicly-available data to test more short-term liquidity levels, a measure of medium- and long-term funding showed some banks that failed in the last crisis wouldn't have set off alarms.
The fund says it has now developed a three-pronged tool to assess liquidity risks in the system. If regulators were to use it, the IMF's tests could provide concrete advice about how to calculate the amount of any fee or other surcharge to cushion against systemic risk.
To help judge systemic risks and avoid the regulatory pitfalls that helped cause the latest financial catastrophe, the IMF recommended that governments also require better access to financial-sector data. Also, the IMF itself wants greater access to the information so as to better monitor capital markets as it seeks to expand its global economic overseer mandate.
Greater transparency would not only help the market and authorities assess the robustness of individual institutions, it would also allow any potential fees on the industry to be "minimized, better targeted and more efficiently provided," the fund said. The measurements would help regulators ensure they didn't over-burden the industry with costs or socialize it too broadly across the industry.
For example, regulators could reduce the need for an extra insurance premium or tax in cases to address systemic liquidity cushion simply through existing capital standard requirements.
Also, investors and regulators may want firms to provide better disclosure of their systemic risks, as that could ultimately affect profits. Current disclosure requirements don't allow investors to see potential debt vulnerabilities. "In many cases, the liability side of the balance sheet...isn't sufficient to see what kinds of liquidity risks" a firm has, said Laura Kodres, chief of the IMF's Global Stability Analysis Division.
"More information on this would be valuable so that investors and even depositors would have a better idea what kind of liquidity risks their institution is undertaking," she said.
Source: http://online.wsj.com
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