The United Kingdom’s June 23 vote to leave the European Union adds downward pressure to the world economy at a time when growth has been slow amid an array of remaining downside risks. The first half of 2016 revealed some promising signs—for example, stronger than expected growth in the euro area and Japan, as well as a partial recovery in commodity prices that helped several emerging and developing economies. As of June 22, we were therefore prepared to upgrade our 2016-17 global growth projections slightly. But Brexit has thrown a spanner in the works.
We support the introduction of negative policy rates by some central banks given the significant risks we see to the outlook for growth and inflation. Such bold policy action is unprecedented, and its effects over time will vary among countries. There have been negative real rates in a number of countries over time; it is negative nominal rates that are new. Our analysis takes a broad view of recent events to examine what is new, country experiences so far, the effectiveness of negative nominal rates as well as their limits and their unintended consequences. Although the experience with negative nominal interest rates is limited, we tentatively conclude that overall, they help deliver additional monetary stimulus and easier financial conditions, which support demand and price stability. Still, there are limits on how far and for how long negative policy rates can go. (more…)
High and rising levels of nonperforming loans in the euro area have burdened bank balance sheets and acted as a drag on bank profits. Banks, striving to maintain provisions to cover bad loans, have had fewer earnings to build-up their capital buffers. This combination of weak profits and a decline in the quality of bank assets, resulting in tighter lending standards, has created challenging conditions when it comes to new lending.
We took a closer look at this relationship and the policies to help fix the problem in our latest Global Financial Stability Report because credit is the grease that helps the economy function.
The stock of nonperforming loans has doubled since the start of 2009 and now stands at more than €800 billion for the euro area as whole (see chart). Around 60 percent of these nonperforming loans stem from the corporate loan book.
We are back in the danger zone. Since our previous report, financial stability risks have increased substantially—reversing some of the progress that had been made over the previous three years. Several shocks have recently buffeted the global financial system: unequivocal signs of a broader global economic slowdown; fresh market turbulence in the euro area; and the credit downgrade of the United States. This has thrown us into a crisis of confidence driven by three main factors: weak growth, weak balance sheets, and weak politics.
The global economy has entered a dangerous new phase. The recovery has weakened considerably, and downside risks have increased sharply. Strong policies are urgently needed to improve the outlook and to reduce the risks. Growth, which had been strong in 2010, decreased in 2011. What was going on was the stalling of the two rebalancing acts—internal and external—which, as we have argued in many previous reports, are needed to deliver “strong, balanced, and sustainable growth.” This has been compounded by a sharp increase in financial volatility since the middle of the summer. These developments have, not surprisingly, led us to revise our forecasts down. In light of the low baseline and the high risks, strong policy action is of the essence. It has to rely on three main legs.
In times of crisis, choices must be made. In the most recent global economic crisis, policymakers moved quickly to stabilize the system, providing massive financial support, which is the right response in the beginning of any crisis. But that only treated the symptoms of the global financial meltdown, and now a rare opportunity is being thrown away to tackle the underlying causes. In our new paper, we analyze the policy choices made during the crisis and compare them to a number of past ones. It turns out the phases of this crisis followed the same pattern as previous ones, but policymakers made different choices this time around. This post lays out the lessons that we should learn.