Abstract

INTERNATIONAL MONETARY FUND

Title Page

INTERNATIONAL MONETARY FUND

GLOBAL FINANCIAL STABILITY REPORT

Vulnerabilities in a Maturing Credit Cycle

2019 APR

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©2019 International Monetary Fund

Cover and Design: IMF CSF Creative Solutions Division

Composition: AGS, An RR Donnelley Company

Cataloging-in-Publication Data

IMF Library

Names: International Monetary Fund.

Title: Global financial stability report.

Other titles: GFSR | World economic and financial surveys, 0258-7440

Description: Washington, DC : International Monetary Fund, 2002- | Semiannual | Some issues also have thematic titles. | Began with issue for March 2002.

Subjects: LCSH: Capital market—Statistics—Periodicals. | International finance—Forecasting—Periodicals. | Economic stabilization—Periodicals.

Classification: LCC HG4523.G557

ISBN 978-1-49830-210-4 (Paper)

  • 978-1-49830-213-5 (ePub)

  • 978-1-49830-215-9 (Mobi)

  • 978-1-49830-217-3 (PDF)

Disclaimer: The Global Financial Stability Report (GFSR) is a survey by the IMF staff published twice a year, in the spring and fall. The report draws out the financial ramifications of economic issues highlighted in the IMF’s World Economic Outlook (WEO). The report was prepared by IMF staff and has benefited from comments and suggestions from Executive Directors following their discussion of the report on March 21, 2019. The views expressed in this publication are those of the IMF staff and do not necessarily represent the views of the IMF’s Executive Directors or their national authorities.

Recommended citation: International Monetary Fund. 2019. Global Financial Stability Report: Vulnerabilities in a Maturing Credit Cycle. Washington, DC, April.

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Editor’s Note (April 8, 2019)

This online version of the GFSR has been updated to reflect the following changes to the print version:

  • –On page 9 (Figure 1.6), a new legend in panel 2 has been added.

  • –On page 36 (Figure 1.24), this sentence has been added to the note: “The numbers for China refer to the values of the two bars and the dot.“

  • –On page 38 (Figure 1.25), the reference to “panel 6” was changed to “panel 4” in the note.

Contents

  • Assumptions and Conventions

  • Further Information

  • Preface

  • Foreword

  • Executive Summary

  • IMF Executive Board Discussion Summary

  • Chapter 1 Vulnerabilities in a Maturing Credit Cycle

    • Global Financial Stability Assessment

    • Late-Cycle Corporate Sector Risks in Advanced Economies

    • The Euro Area Sovereign–Financial Sector Nexus

    • Vulnerabilities in China, Emerging Markets, and Frontier Economies

    • Policy Priorities

    • Box 1.1. China’s Share-Collateralized Lending and Its Financial Stability Implications

    • Special Feature: Liquidity Risks in Capital Markets

    • References

    • Online Annex 1.1. Technical Note

  • Chapter 2 Downside Risks to House Prices

    • Summary

    • Introduction

    • Conceptual Framework

    • An Overview of Developments in House Prices

    • Empirical Analysis: The Behavior of House Prices at Risk

    • House Prices at Risk and Financial Stability

    • Policies and House Prices at Risk

    • Conclusion and Policy Recommendations

    • Box 2.1. Synchronization of House Prices at Risk across Countries

    • Box 2.2. City-Level House Prices at Risk in the United States and Canada

    • Box 2.3. Province-Level House Prices at Risk in China

    • References

    • Online Annex 2.1. Data and Empirical Methodology

    • Online Annex 2.2. Theoretical Modeling Framework

  • Tables

    • Table 1.1. How Is the Current Corporate Credit Cycle Different from Past Cycles?

    • Table 1.2. Scenario Assumptions

    • Table 1.3. Availability/Use of Prudential Tools for Different Types of Vulnerabilities

    • Table 1.1.1. Share-Collateralized Lending Exposures by Lender Type, as of October 2018

    • Table 1.SF.1. Penetration of Electronic, Automated, and High-Frequency Trading

  • Figures

    • Figure 1.1. Global Market Developments

    • Figure 1.2. Global Financial Conditions

    • Figure 1.3. Growth-at-Risk Estimates

    • Figure 1.4. Global Financial Vulnerabilities

    • Figure 1.5. Balance Sheet Vulnerabilities

    • Figure 1.6. Asset Price Misalignments

    • Figure 1.7. Credit Market Developments in the United States and Europe

    • Figure 1.8. The Key Features of the Current Corporate Credit Cycle

    • Figure 1.9. Tracking the Corporate Credit Cycle: United States versus Europe

    • Figure 1.10. Corporate Profitability Indicators in Advanced Economies

    • Figure 1.11. Corporate Credit Quality Indicators in Advanced Economies

    • Figure 1.12. Potential Fallout from the BBB Bond Downgrades on the US High-Yield Corporate Bond Market

    • Figure 1.13. Developments in the Leveraged Loan Market in the United States and Europe

    • Figure 1.14. Italian Sovereign and Banks: Recent Financial Developments

    • Figure 1.15. The Euro Area Sovereign–Financial Sector Nexus

    • Figure 1.16. Channels of Contagion in the Sovereign–Financial Sector Nexus

    • Figure 1.17. Euro Area Banks, Sovereign Shocks, and Nonperforming Loans

    • Figure 1.18. Selected Euro Area Countries: Insurers’ Exposures to Sovereign, Bank, and Corporate Bonds

    • Figure 1.19. Euro Area Bank Profits and Funding

    • Figure 1.20. Recent Developments in Emerging and Frontier Markets

    • Figure 1.21. Recent Pressures and Outlook for Portfolio Flows to Emerging Markets

    • Figure 1.22. Emerging Market Benchmark-Driven versus Unconstrained Investors

    • Figure 1.23. Benchmark-Driven Portfolio Flows to Emerging Markets

    • Figure 1.24. Emerging Market and Frontier Debt Characteristics and the Impact of China’s Inclusion in Benchmark Indices

    • Figure 1.25. China: Impact of Regulatory Tightening on Credit Expansion

    • Figure 1.26. Bank Balance Sheet Weaknesses

    • Figure 1.27. China: Impact of Tightening Financial Conditions on Nonfinancial Firms

    • Figure 1.28. Frontier Debt Vulnerabilities

    • Figure 1.1.1. China: Market Share and Debt-Servicing Capacity of Firms Reliant on Share-Collateralized Lending

    • Figure 1.SF.1. Structural Changes in the Provision of and Demand for Market Liquidity

    • Figure 1.SF.2. Evolution in Market Liquidity

    • Figure 1.SF.3. Prevalence of Jumps and Liquidity Strain in Advanced and Emerging Markets

    • Figure 1.SF.4. Equity Volatility, High-Yield Spreads, and Days with Liquidity Strain

    • Figure 1.SF.5. Proportion of Intraday Price Variation Due to Jumps: In Japanese Yen/US Dollar

    • Figure 1.SF.6. Brexit Event Study on Jumps and Market Liquidity

    • Figure 2.1. Historical Developments in Real House Prices

    • Figure 2.2. House Prices and Financial Stability

    • Figure 2.3. Frequency Distribution of Real House Price Growth

    • Figure 2.4. Determinants of Real House Prices

    • Figure 2.5. House Prices and Fundamentals: Quantile Regression Results

    • Figure 2.6. Evolution of House Prices at Risk and Shifts in Riskiness

    • Figure 2.7. Predictive Distributions of House Price Risks

    • Figure 2.8. Factors Affecting House Prices at Risk in the United States and China

    • Figure 2.9. City- and Country-Level Comparisons of House Prices at Risk

    • Figure 2.10. Out-of-Sample Forecasting Accuracy

    • Figure 2.11. House Prices at Risk and Financial Stability

    • Figure 2.12. Effects of Macroprudential and Monetary Policy and Capital Flows on House Prices at Risk

    • Figure 2.1.1. Instantaneous Quasi-Correlation of Downside Risks in House Prices

    • Figure 2.2.1. Downside Risks to House Prices in the United States and Canada

    • Figure 2.3.1. Impact of a One Standard Deviation Factor Shock on House Prices at Risk across China’s Provinces

    • Figure 2.3.2. Tree-Year-Ahead House Prices at Risk and Valuation across Regions in China

Assumptions and Conventions

The following conventions are used throughout the Global Financial Stability Report (GFSR):

… to indicate that data are not available or not applicable;

—to indicate that the figure is zero or less than half the final digit shown or that the item does not exist;

– between years or months (for example, 2017–18 or January–June) to indicate the years or months covered, including the beginning and ending years or months;

/ between years or months (for example, 2017/18) to indicate a fiscal or financial year.

“Billion” means a thousand million.

“Trillion” means a thousand billion.

“Basis points” refers to hundredths of 1 percentage point (for example, 25 basis points are equivalent to ¼ of 1 percentage point).

If no source is listed on tables and figures, data are based on IMF staff estimates or calculations.

Minor discrepancies between sums of constituent figures and totals shown reflect rounding.

As used in this report, the terms “country” and “economy” do not in all cases refer to a territorial entity that is a state as understood by international law and practice. As used here, the term also covers some territorial entities that are not states but for which statistical data are maintained on a separate and independent basis.

The boundaries, colors, denominations, and any other information shown on the maps do not imply, on the part of the International Monetary Fund, any judgment on the legal status of any territory or any endorsement or acceptance of such boundaries.

Further Information

Corrections and Revisions

The data and analysis appearing in the Global Financial Stability Report are compiled by the IMF staff at the time of publication. Every effort is made to ensure their timeliness, accuracy, and completeness. When errors are discovered, corrections and revisions are incorporated into the digital editions available from the IMF website and on the IMF eLibrary (see below). All substantive changes are listed in the online table of contents.

Print and Digital Editions

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Preface

The Global Financial Stability Report (GFSR) assesses key risks facing the global financial system. In normal times, the report seeks to play a role in preventing crises by highlighting policies that may mitigate systemic risks, thereby contributing to global financial stability and the sustained economic growth of the IMF’s member countries.

The analysis in this report was coordinated by the Monetary and Capital Markets (MCM) Department under the general direction of Tobias Adrian, Director. The project was directed by Fabio Natalucci, Deputy Director, as well as by Claudio Raddatz and Anna Ilyina, both Division Chiefs. It benefited from comments and suggestions from the senior staff in the MCM Department.

Individual contributors to the report were Adrian Alter, Prasad Ananthakrishnan, Sergei Antoshin, Magally Bernal, Peter Breuer, John Caparusso, Sally Chen, Shiyuan Chen, Yingyuan Chen, Kevin Chow, Fabio Cortes, Andrea Deghi, Dimitris Drakopoulos, Martin Edmonds, Rohit Goel, Alexei Goumilevski, Tryggvi Gudmundsson, Frank Hespeler, Henry Hoyle, Mohamed Jaber, David Jones, Mitsuru Katagiri, Will Kerry, Oksana Khadarina, Piyusha Khot, Robin Koepke, Elizabeth Mahoney, Sheheryar Malik, Rebecca McCaughrin, Aditya Narain, Evan Papageorgiou, Thomas Piontek, Jochen Schmittmann, Sohaib Shahid, Juan Solé, Ilan Solot, Nico Valckx, Constant Verkoren, Jeffrey Williams, Peichu Xie, Janice Yi Xue, Akihiko Yokoyama, and Xingmi Zheng. Magally Bernal, Monica Devi, and Breanne Rajkumar were responsible for word processing.

Gemma Diaz from the Communications Department led the editorial team and managed the report’s production with editorial assistance from Sherrie Brown, Christine Ebrahimzadeh, Lucy Scott Morales, Nancy Morrison, Katy Whipple of The Grauel Group, AGS, and Vector Talent Resources.

This issue of the GFSR draws in part on a series of discussions with banks, securities firms, asset management companies, hedge funds, standard setters, financial consultants, pension funds, central banks, national treasuries, and academic researchers.

This GFSR reflects information available as of March 21, 2019. The report benefited from comments and suggestions from staff in other IMF departments, as well as from Executive Directors following their discussion of the GFSR on March 21, 2019. However, the analysis and policy considerations are those of the contributing staff and should not be attributed to the IMF, its Executive Directors, or their national authorities.

Foreword

Markets sold off sharply late last year, broadly across asset classes, amid growing signs of a slowing global economy and rising concerns about US-China trade tensions. Against a backdrop of rising downside risks, policymakers across the globe took steps to prevent a sharper deceleration of the economy. Such a forceful response supported market sentiment and triggered a sharp rebound in risk assets. Despite this recent improvement, financial markets remain susceptible to a sudden tightening in financial conditions. Potential triggers include a sharp repricing of risk, an intensification of trade tensions, a further slowdown in global economic activity, or political shocks.

An abrupt deterioration in financial conditions could unmask financial fragilities that have built during the period of very low interest rates. In this issue of the Global Financial Stability Report we are introducing a more structured, systematic approach aimed at monitoring financial vulnerabilities. Using data back to 2000 for 29 systemically important economies that account for a significant share of the global economy, we assess the level of vulnerability across regions and sectors (banks, nonbank financial institutions, sovereigns, firms, and households).

This new framework detects elevated financial vulnerability in several sectors around the world, including sovereigns, firms, and nonbank financial institutions. These vulnerabilities could turn into powerful amplification mechanisms if adverse shocks materialize. For example, the level of corporate debt has been rising around the world, and there is a weak tail of companies with high leverage and weak earnings prospects. There are growing signs that this credit cycle may be maturing, and risks of an economic slowdown are rising. The most highly indebted companies could be vulnerable to such a shock. While fundamentals in emerging markets are stronger and policy frameworks generally more resilient than in the past, some countries have low reserves, high leverage, or high foreign currency exposures that could make them more vulnerable to capital flow pressures. Furthermore, in Europe, fiscal challenges in some countries have reignited worries about the sovereign-bank nexus as a potentially powerful amplification mechanism in economies with more indebted sovereigns. Finally, housing markets in many advanced and emerging markets are at risk.

In sum, these rising financial vulnerabilities point to elevated medium-term risks to financial stability. Policymakers should act now to reduce these vulnerabilities while they can. Countercyclical capital buffers should be activated in countries with rising vulnerabilities, and macroprudential tools should be developed to contain corporate vulnerabilities. Monetary policies should remain data dependent and well communicated to avoid market overreaction and prevent further growth deceleration.

Tobias Adrian

Financial Counsellor

Executive Summary

Financial conditions have tightened since the October 2018 Global Financial Stability Report (GFSR) but remain relatively accommodative, notably in the United States. After sharp declines in the fourth quarter of 2018, financial markets rebounded strongly in early 2019 on growing optimism about US-China trade negotiations and as major central banks adopted a more patient and flexible approach to monetary policy normalization. Such a dovish shift in the outlook for monetary policy in advanced economies has helped sustain positive market sentiment despite growing signs of weakening global growth (as discussed in the April 2019 World Economic Outlook).

With financial conditions still accommodative, vulnerabilities continue to build. The tightening in financial conditions in the fourth quarter of 2018 was too short-lived to meaningfully slow the buildup of vulnerabilities, leaving medium-term risks to global financial stability broadly unchanged. Financial vulnerabilities are currently elevated in the sovereign, corporate, and nonbank financial sectors in several systemic countries. As the credit cycle matures, corporate sector vulnerabilities—which appear elevated in about 70 percent of systemically important countries (by GDP)—could amplify an economic downturn.

This report presents a new framework for comprehensive assessment of balance sheet vulnerabilities across financial and nonfinancial sectors, and focuses on a number of specific vulnerabilities in advanced and emerging market economies.

  • Corporate sector debt in advanced economies: Debt-service capacity has improved in most advanced economies, and balance sheets appear strong enough to sustain a moderate economic slowdown or a gradual tightening of financial conditions. However, overall debt and financial risk taking have increased, and the creditworthiness of some borrowers has deteriorated. As a result, the stock of lower-rated investment-grade (BBB) bonds has quadrupled, and the stock of speculative-grade credits has almost doubled in the United States and the euro area since the crisis. Therefore, a significant economic downturn or sharp tightening of financial conditions could lead to a notable repricing of credit risk and could strain the debt-service capacity of indebted firms. If monetary and financial conditions remain easy, debt will likely rise further in the absence of policy action, raising the specter of a deeper downturn in the future.

  • The sovereign–financial sector nexus in the euro area: Fiscal challenges in Italy have rekindled worries about the sovereign–financial sector nexus. Bank capital ratios are now higher in the euro area. But potential losses on nonperforming loans and mark-to-market declines in the value of government bonds could result in a significant hit to capital for some banks. Insurance companies could also become entangled in the nexus, given their significant holdings of sovereign, bank, and corporate bonds. There is a risk that strains in the financial sector could yet again be passed on to companies and households, hurting economic growth.

  • China’s financial imbalances and potential spillovers: Financial vulnerabilities in China remain high, and the authorities face a difficult trade-off between supporting near-term growth, countering adverse external shocks, and containing leverage through regulatory tightening. Small and medium-size banks remain weak, weighing on financing conditions for smaller firms. Yet further monetary and credit easing may increase vulnerabilities, as continued credit growth could slow or impede bank balance sheet repair and exacerbate existing biases in credit allocation. Meanwhile, China’s importance for other emerging markets will continue to increase with its inclusion in benchmark indices; portfolio flows to China are expected to rise by as much as $150 billion by 2020 as a result of its inclusion in a global bond index.

  • Volatile portfolio flows to emerging markets: Portfolio flows to emerging markets are increasingly influenced by benchmark-driven investors. The amount of funds benchmarked against widely followed emerging market bond indices has quadrupled in the past 10 years to $800 billion. Estimates also suggest that 70 percent of country allocations of investment funds are influenced by benchmark indices. Given that benchmark-driven investors are more sensitive to changes in global financial conditions than other investors, the benefits of index membership may be tempered by financial stability risks for some countries. As these investors become a larger share of portfolio flows, external shocks may propagate to medium-size emerging and frontier market economies faster than in the past.

  • House prices at risk (HaR): The recent rapid increase in house prices in many countries has raised concerns about the possibility of a price correction. A new house prices-at-risk framework, presented in Chapter 2 of this report, is used to quantify downside risks to house price growth. Lower house price momentum, overvaluation, excessive credit growth, and tighter financial conditions help predict downside risks to house prices up to three years ahead. In turn, the measure of house prices at risk helps forecast downside risks to GDP growth and predict financial crises. The most recent data point to increased downside risks to house prices over the next one to three years in some countries.

Looking ahead, there is a risk that positive investor sentiment could deteriorate abruptly, leading to a sharp tightening of financial conditions. This will have a larger effect on economies with weaker fundamentals, greater financial vulnerabilities, and less policy space to respond to shocks. Possible triggers include the following:

  • A sharper-than-expected growth slowdown could lead to tighter financial conditions as risk asset prices fall, reflecting a weaker outlook for corporate earnings, even as policies turn more accommodative.

  • An unexpected shift to a less dovish outlook for monetary policy in advanced economies could trigger a repricing in markets, especially if investors realize that they have taken too benign a view on the monetary policy stance.

  • Political and policy risks, such as an escalation of trade tensions or a no-deal Brexit, could affect market sentiment and lead to a spike in risk aversion.

Amid rising downside risks to global growth, policymakers should aim to avoid a sharper economic slowdown, while keeping financial vulnerabilities in check:

  • Policymakers should clearly communicate any reassessment of the monetary policy stance that reflects either changes in the economic outlook or risks surrounding the outlook. This will help avoid unnecessary swings in financial markets or unduly compressed market volatility.

  • In countries with high or rising financial vulnerabilities, policymakers should proactively deploy prudential tools or expand their macroprudential toolkits where needed. These countries would benefit from activating or tightening broad-based macroprudential measures, such as countercyclical capital buffers, to increase the financial system’s resilience. Efforts should also focus on developing prudential tools to address rising corporate debt from nonbank financial intermediaries and maturity and liquidity mismatches in the nonbank sector. Regulators should also ensure that more comprehensive stress tests (that include macro-financial feedback effects) are conducted for banks and nonbank lenders.

  • Measures to repair public and private balance sheets should be stepped up. A gradual fiscal adjustment is needed to reduce elevated risks, based on policies that will support medium-term growth. Efforts to tackle nonperforming loans on euro area bank balance sheets should continue. Given concerns about the sovereign–financial sector nexus, consideration could be given to mitigating concentration risk in banks’ sovereign exposures.

  • Emerging market economies should ensure resilience against foreign portfolio outflows by reducing excessive external liabilities, cutting reliance on short-term debt, and maintaining adequate fiscal and foreign exchange reserve buffers. Given the rising importance of benchmark-driven portfolio flows, a close dialogue is needed between index providers, the investment community, and regulators. Building on the progress achieved so far, the Chinese authorities should continue financial sector de-risking and deleveraging policies and put greater emphasis on addressing bank vulnerabilities. Structural reforms such as reducing the emphasis on growth targets and tightening budget constraints for Chinese state-owned enterprises will be critical to reduce credit misallocation.

IMF Executive Board Discussion Summary

The following remarks were made by the Chair at the conclusion of the Executive Board’s discussion of the Fiscal Monitor, Global Financial Stability Report, and World Economic Outlook on March 21, 2019.

Executive Directors broadly shared the assessment of global economic prospects and risks. They observed that global economic activity had recently lost momentum, reflecting a confluence of factors in a number of large economies. Global trade had slowed sharply, and concerns over trade tensions weakened business confidence. Directors noted that while growth is expected to level off in the first half of this year and firm up thereafter, this short-term outlook is subject to considerable uncertainty.

Directors noted that, over the medium term, growth is expected to moderate further in advanced economies, as population aging constrains the expansion of the labor force and labor productivity growth remains tepid. In emerging market and developing economies, growth is expected to increase modestly. Convergence toward advanced economy income levels, however, remains slow for many of these economies, due to structural bottlenecks and, in some cases, high debt, subdued commodity prices, and civil strife.

Directors agreed that risks to the global outlook remain skewed to the downside amid high policy uncertainty. These include a reescalation of trade tensions and disruptions from a no-deal Brexit. Given still-accommodative financial conditions, the global economy also remains susceptible to a sudden shift in market sentiment and associated tightening in financial conditions. Downside risks in systemic economies, if they were to materialize, also weigh on the outlook. On the upside, if recent tariff increases are rolled back and trade tensions resolved, rising business confidence could lift growth. Over the medium term, many Directors noted risks from rising inequality, climate change, cyber risks, political uncertainty, and declining trust in institutions.

Directors noted that the current conjuncture highlights the urgent need for strong global cooperation and coordination to tackle shared challenges. Many Directors attached priority to resolving trade disagreements cooperatively without raising further distortionary barriers, and reiterated the importance of strengthening the open, rules-based multilateral trading system. Directors stressed that broadening the gains from global economic integration would also require closer cooperation in the areas of financial regulatory reforms, the global financial safety net, international corporate taxation, and climate change. Progress on external rebalancing relies on macroeconomic and structural policies, mindful of countries’ domestic conditions and objectives, to increase demand and growth potential in surplus countries, and initiatives to boost supply and potential output in deficit countries.

Against the backdrop of waning global growth momentum and limited policy space in many countries, Directors underscored the need to avoid policy missteps, contain risks, and enhance resilience while raising inclusive growth prospects. Macroeconomic policies should be carefully calibrated, aiming to support growth where output may fall below potential and policy space exists, and ensuring a soft landing where policy support needs to be withdrawn. In the event of a deeper or protracted downturn, policies should become more accommodative where feasible.

Directors stressed that fiscal policy should strike the right balance between growth and debt sustainability objectives as appropriate in individual countries. In countries with high debt, gradual fiscal adjustment is needed, particularly if financing risks are large. In countries with fiscal space, fiscal policy should boost aggregate demand where there is slack and raise potential growth where the economy is operating above potential. In this regard, a few Directors noted the role of automatic stabilizers during cyclical downswings. In the event of a more protracted slowdown in growth, care should be taken to avoid a procyclical fiscal stance. Directors concurred that fiscal policy should also adapt to shifting demographics, advancing technology, and deepening global integration. Where there is limited budgetary room, such a response will have to occur through budget recomposition and reprioritization.

Amid signs of weakening growth and muted inflation in most advanced economies, Directors welcomed the more gradual approach to monetary policy normalization by major central banks since the beginning of this year, which has helped boost positive market sentiment. They urged policymakers to clearly communicate any reassessment of the pace of monetary policy normalization that reflects either changes in the economic outlook or risks surrounding the outlook, to avoid excessive market swings or unduly compressed market volatility.

With financial conditions still accommodative as the credit cycle matures, Directors noted that financial vulnerabilities would likely continue to build in different parts of the global economy. These include rising corporate debt, sovereign–financial sector nexus, maturity and liquidity mismatches, house price misalignment, and sensitivity of portfolio flows and asset prices in emerging markets to changes in global financial conditions. The tightening in financial conditions late last year was too short-lived to meaningfully slow the buildup of vulnerabilities, leaving medium-term risks to global financial stability broadly unchanged. Where needed, policymakers should deploy prudential tools proactively, expand macroprudential toolkits, and continue to repair public and private balance sheets.

Across all economies, growth-enhancing structural reforms remain key to improving potential output, inclusiveness, and resilience. Directors emphasized that high debt levels in many countries require a multipronged approach, including to enhance debt transparency and management. Broader structural reforms should aim to lift productivity, encourage labor force participation, and upgrade skills. Further deregulation in product markets and services, supported by stronger competition law and policy, could help deter the rise in corporate market power in advanced economies.

Noting that corruption could undermine inclusive growth, public finances, and poverty reduction efforts, Directors highlighted the need to improve fiscal institutions, transparency, and governance in the public sector. Greater cooperation is also essential at the global level, including combating foreign bribery and money laundering of proceeds from corrupt activities, as well as improving the sharing of information to fight tax evasion and prosecute corrupt acts.

Directors stressed that, with external conditions remaining uncertain, emerging market and developing economies should focus monetary policy on anchoring inflation expectations where inflation remains high, and support domestic activity as needed where expectations are well anchored. Depending on country circumstances, efforts should continue to raise revenue, reduce debt-related vulnerabilities, and make steady progress on economic and financial rebalancing.

Directors underscored the need for low-income developing economies to adopt policies that focus on drivers of growth, raise resilience to volatile external conditions, durably reduce debt vulnerabilities, and advance toward the 2030 Sustainable Development Goals, with continued support from the international community. Priorities include improving macroeconomic and macroprudential policy frameworks, strengthening domestic resource mobilization, and gearing fiscal policy toward supporting growth and development objectives, including protection for social spending and carefully selected capital projects. Commodity exporters need to continue diversifying their economies through policies that improve education quality, narrow infrastructure gaps, enhance financial inclusion, and boost private investment.