Economic and Social Council
of the Bretton Woods Institutions
Christopher Towe
Monetary and Capital Markets Department
April 14, 2008
1
Outline…
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

Risks of a further deterioration
Key policy requirements
The multilateral response
2
Outline…



Risks of a further deterioration
Key policy requirements
The multilateral response
3
The global conjuncture and threats to systemic
stability remain worrisome…


Markets have stabilized somewhat in recent weeks…
But only in response to a massive policy response:






Extraordinary liquidity provision by central banks
Cuts in official interest rates
Fiscal stimulus
Reform proposals
And private market participants have also had to bolster
capital…
But interbank markets still impaired and there is a
significant “tail risk” of self-sustained debt spiral
4
Our Global Financial Stability Map shows where
the risks are most worrisome
Emerging market risks
Risks
Credit risks
October 2007 GFSR
April 2008 GFSR
Macroeconomic
risks
Market and
liquidity risks
Closer to center signifies
less risk or tighter conditions
Monetary and financial
Risk appetite
Conditions
5
IMF estimates of potential losses illustrate
it’s not just a “sub-prime” problem…
Estimates of Potential Write-downs to Holders of
U.S.-Issued Securitized and Unsecuritized Debt
Non-prime
residential
real estate
56%
Leveraged
loans
Corporate
credit
4%
8%
2%
4%
25%
Consumer
credit
$945 billion
Prime
residential
real estate
Commercial
real estate
6
The U.S. remains a key concern, with default
rates rising now in “prime” markets
Subprime
30
2006
25
Prime
2.5
2005
2000
2000
2.0
20
1.5
2004
2005
15
2006
2007
1.0
2007
2003
10
2004
0.5
5
2003
0.0
0
0
10
20
30
40
50
60
0
10
20
30
40
50
60
7
Non-U.S. real estate markets are also
vulnerable to a downturn
Residential Housing
Price Trends
300
United Kingdom
Spain
Euro area
France
Ireland
United States
250
200
150
100
2007Q1
2006Q1
2005Q1
2004Q1
2003Q1
2002Q1
2001Q1
2000Q1
1999Q1
1998Q1
1997Q1
1996Q1
1995Q1
50
8
Interbank liquidity problems increasingly reflect
solvency concerns…
90
80
70
United States
Non-credit
strains (mostly
liquidity)
Credit strains
60
110
100
90
Non-credit strains (mostly
liquidity)
Credit strains
80
70
50
60
40
50
30
40
20
Euro area
30
20
10
0
-10
Jan-07 Apr-07 Jul-07 Oct-07 Jan-08
10
0
-10
Jan-07 Apr-07 Jul-07 Oct-07 Jan-08
9
Bank losses are spreading beyond the U.S….
Expected Nonprime-Related Bank Losses
(In billions of U.S. dollars as of March 2008)
160
140
Conduits / SIVs
120
ABS CDOs
100
ABS
Nonprime loans
80
60
40
20
0
Europe
United States
Asia
Note: Losses aggregated over a two year period. ABS = asset-backed
securities; CDOs = collateralized debt obligations; SIVs = structured
investment vehicles.
10
The U.S. corporate sector is vulnerable
to rising credit strains…
Macroeconomic Indicators and Default Rates
-3.5
-2.5
-1.5
Slower
growth;
tighter
lending
standards
14
Recessions
Lending standards 1/
12
Default rate (rhs) 2/
10
-0.5
8
0.5
6
1.5
4
2.5
2
3.5
1983
1988
1993
1998
1/ Net survey balances; standardized over 1990-present.
2/ Issuer-weighted.
2003
0
2008
11
Emerging market economies are feeling the
pressure of the global financial crisis
Emerging Market Private Sector Bond Issuance
Emerging Market Corporate Spreads
(billions of U.S. dollars)
(in basis points)
35
450
Asia
EMEA
Latam
30
400
25
350
20
300
15
250
10
200
5
150
0
100
Jan-06
Q106
Q306
Q107
Q307
Q108
Asia
EMEA
Latam
Jul-06
Jan-07
Jul-07
Jan-08
12
In summary, we still see significant
threats to systemic stability from:

A spreading of the U.S. sub-prime crisis in several
dimensions




To other real estate markets, both in the U.S. and
abroad
Beyond the banking sector, including to investment
banks and monoline insurers
Beyond the industrial world and into the emerging
markets and developing countries
To the macro-economies of both mature and
developing countries
13
Outline…



Risks of a further deterioration
Key policy requirements
The multilateral response
14
In the short term, the focus must remain
on avoiding a self-sustained credit crunch





Support for interbank markets
Enhance bank disclosure
Encourage bank recapitalization
Early action by supervisors to deal stressed
institutions
Develop contingency plans for dealing with
potentially large stocks of impaired assets
15
But steps over the medium term are also
needed avoid future such episodes…

The causes of the crisis were multi-faceted, so too must
be the policy response



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Strengthen credit discipline: Tighten regulation and oversight
over mortgage originators to improve underwriting standards
Stricter application of consolidated supervision: Basel II
reduces the incentives to move off-balance sheet, but vigilance
will still be required
Fair value accounting: Care is needed to minimize the
procyclicality of this system
Improve liquidity risk management: Supervisors need to
more actively stress test
Crisis management



Enhance central bank liquidity frameworks
Improve interagency coordination and information sharing
Clarify enforcement responsibility
16
Outline…



Risks of a further deterioration
Key policy requirements
The multilateral response
17
These messages have been given strong
endorsement during the weekend…


By the Fund’s International Monetary and Financial
Committee
The G7, too, called for:



A 100-day plan
 Enhanced disclosure
 Review of (fair-value) accounting standards
 New liquidity risk and credit rating guidelines
And by end 2008:
 Tighter capital requirements for structured credit products
 Enhanced transparency guidelines
 More fundamental changes in the use of credit ratings
And cross-border supervisory cooperation is set to be
strengthened in Europe and beyond
18
And for the Fund…?
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We will be responding on the multilateral front:
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Our Global Financial Stability Report (GFSR) provides a
critical vehicle for disseminating our analysis and
pressing our policy advice to a wide audience
We will work closely with the Financial Stability Forum
to help forge the consensus on specific policy responses
We will be actively engaged with the key standard
setters (e.g., Basel Committee) and key private industry
groups
And on the bilateral side:

The lessons above will inform our FSAP and Article IV
assessments, and our dialogue with national
policymakers
19
Economic and Social Council
of the Bretton Woods Institutions
Christopher Towe
Monetary and Capital Markets Department
April 14, 2008
20