The global credit crunch touched off by the subprime mortgage crisis in the United States has yet to reach its nadir and is spreading into other markets, according to the International Monetary Fund (IMF).
“At the moment, a bottom for the housing market is not visible,” says the fund’s latest Global Financial Stability Report. It warns that slow economic growth and faltering real estate markets are placing severe strain on banks, limiting credit and further aggravating the downturn. To make matters worse, the crisis is now affecting prime residential and commercial real estate markets, consumer credit, and corporate credit markets.
“The systemic concerns are exacerbated by a deterioration of credit quality, a drop in valuations of structured credit products, and a lack of market liquidity accompanying a broad deleveraging in the financial system,” the report says. It adds the critical challenge now facing policymakers is to quickly mitigate the risks of a significantly greater adjustment by preparing contingency plans while also addressing the origins of the present predicament.
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Banks and financial institutions in North America and Europe have so far written off US$500 billion of the $1 trillion in losses predicted by the IMF in April, and it is expected that lending practices will be curtailed for the foreseeable future as they have only succeeded in raising enough capital to cover two-thirds of these losses.
“As banks seek to deleverage and economize on capital, assets are being sold and lending conditions tightened, resulting in slower credit growth in the U.S. and the euro area,” says the report.
According to the IMF, emerging markets such as China and India may also suffer serious economic setbacks from the credit crunch, as China is the largest holder of bonds issued by struggling U.S. government-sponsored mortgage lenders Fannie Mae and Freddie Mac. Inflation is proving problematic for this sector, as the IMF predicts a 9.1% average inflation rate for developing and emerging countries. “With inflation risks on the rise, the scope for monetary policy to be supportive of financial stability has become more constrained,” the report says.
To read the Global Financial Stability Report, click here.
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