Häusler The markets in a technical sense have held up remarkably well, especially after September 11, if you bear in mind that some of the infrastructure in lower Manhattan was demolished. Those involved in “restructuring” did a great job.I especially want to congratulate the Federal Reserve in Washington and in New York and the many unsung heroes in the back offices of the private sector financial institutions.
As for the markets, we have seen a considerable drop in equity prices, but they have come down from a very high level. Perhaps the levels were assuming evaluations and price-earnings ratios for the next year or two that were overoptimistic—extrapolating developments from a long bull market. Considering that the outlook for the world economy is certainly much less optimistic than it was a year ago, equity markets have held up remarkably well. In fact, they may already be looking ahead toward the upturn that many of us expect to occur next year; rightly or wrongly, only time can tell.
Häusler I don’t know if surprise is the right word. We should feel reassured because this resilience shows that the markets have become very professional and have learned not to panic, even though present valuations are still high in a historical perspective.
Häusler With the new department barely created, we should not claim credit prematurely. I had just started to put its components together and to hire additional firepower. As to the future, we hope to enhance the IMF’s understanding of current developments and systemic trends in international capital markets, so that the IMF can be in a position to respond in a timely fashion to market events leading to financial crises.
Häusler It was created because private capital markets have become so much more important for our members. We need to thoroughly understand how to assist members to access them, how to retain access, and, where necessary, how to regain access. Thus, our job is to help ensure that the area departments have all the necessary expertise available in their dealings with member countries.
Häusler The way I see the mission, the IMF intends to pay attention equally to emerging market countries as the recipients of private sector flows and to mature markets as the source of such flows. There are considerable interlinkages between the two. The IMF’s surveillance mission implies that the IMF is also looking at mature financial markets, not only as the origin of private sector capital but also as a potential source of instability.
Häusler First of all, we have to recognize that a certain volatility in financial markets will always be there. Financial markets deal with expectations about the real economy and, because expectations by definition are more volatile than the real economy itself, financial markets will always be more volatile than the real economy. By the way, we should not overlook certain positive aspects of volatility. The only advice I can give is the old-fashioned conservative advice that, in the end, reducing volatility will hinge on getting the fundamentals right—that is, sound fiscal and monetary policies—as well as progress in developing robust institutions for a market economy that is flexible enough to absorb certain exogenous shocks.
ICM’s terms of reference
Gather and assess information on developments in international capital markets, and make this information readily available to area and other IMF departments, as a vital part of the IMF’s surveillance work and of the design and monitoring of its lending programs.
Develop analytic and operational approaches to systemic issues, including capital account liberalization; assess systemic risks stemming from international capital markets developments; and conduct policy-oriented and analytical research on issues related to international capital markets.
Develop and maintain a management information system designed to provide continuous surveillance of capital markets, with a view to strengthening the IMF’s early warning capabilities of potential financial crises, in cooperation with other IMF departments.
Serve as the IMF’s main point of contact with official and private forums dealing primarily with international capital markets issues by establishing and maintaining systematic liaisons with private capital market participants, national authorities responsible for financial system policies, and official forums dealing with international capital markets issues; this includes having the responsibility for the preparation and follow-up to meetings of the Capital Markets Consultative Group and regional gatherings with capital market participants.
Advise area departments and members on all aspects of access to international capital markets and relations with creditors in the context of both bilateral surveillance and the use of IMF resources; this would include external debt management strategies, prospects for capital market access, promoting constructive relations between debtors and their creditors, and, if necessary, the restructuring of external debt; and develop and advise on all aspects of the implementation of the IMF’s policy on the involvement of the private sector in the resolution of financial crises.
Support the IMF’s work on multilateral surveillance.
Produce periodic reports on developments in international capital markets.
Häusler Countries that have just recently accessed the markets have to be very cautious and conservative, because the markets will scrutinize their behavior probably more closely than they will scrutinize the behavior of countries that have been in the capital markets for much longer. So, again, conservative policies, and cushions in terms of financing and reserves, will always suit them very well.A consistent and well-executed investor relations policy can also be helpful in conveying the right message.
Häusler I think any retreat from capital account liberalization, or even convertibility, into capital controls would pose a very delicate shift of policy. That said, how soon a particular country should go to full capital account liberalization in the first place needs to be debated very carefully. The markets will not easily forgive going backward, but they will understand countries moving toward liberalization cautiously.
Häusler We all agree that early warning systems are important. But we all know as well that they have their weaknesses—that they may not catch every vulnerability, every weakness, every crisis. And they may ring a bell when there is no crisis. Therefore, they must be used with great caution. I sometimes compare these early warning systems to school grades. There is a clear correlation between school grades and final exam grades. But this correlation is certainly not perfect. Some people have good grades and fail the exam, and others have bad grades and still pass the exam.
As to giving out information on country weaknesses, I think the IMF must be extremely cautious—not only because these are our members but also because the IMF must not be seen as having triggered a crisis where one could have been avoided. So the answer is yes, these systems are already in action, but any communication of their results will have to be handled delicately and without going public.
Häusler First, we had all agreed that the findings of this meeting would be private, so if we expect the other side to hold to that agreement, we must keep our promises as well.I can just say that we covered a wide range of issues, potential vulnerabilities, and weaknesses in all areas of financial markets. That said, I would like to add that, in general, the IMF—like all other public institutions—must be careful not to overestimate the number of secrets it has. In reality, there are relatively few secrets. This is why I think a frank exchange of views with the private sector is helpful and warranted.
Häusler Yes, very much so. But it is not just the CMCG, with its twice a year meetings, that can be a transmission mechanism. You have to put this also in the context of a whole host of private sector meetings at all levels, where the aim is for us not just to gain insights into the private sector but also to explain ourselves to the private sector and garner support from it.
Häusler The short answer is yes, because I have already hired a few people from the private sector. We cannot always compete financially, but there is a reasonably large group of people out there who have an interest, at some point in their career, in working on public policies. But to tell you the truth, the problem is not the money. The more crucial issue is having a working climate where private sector people feel that they have meaningful responsibilities. There needs to be a careful balance between preserving the IMF’s integrity and cohesion on the one hand and delegating enough responsibility, on the other hand, to attract first-class people.
Häusler Given the globalized nature of financial markets and given the importance of private sector capital flows, the IMF has no choice but to interact regularly and frequently with many segments of the capital markets.
Häusler The private sector does remain engaged in many areas, and we should not prematurely discount this factor. Where we certainly have a significant problem is during an actual crisis. Unlike in the corporate sector on the national level where there are workout procedures, in an international sovereign case, there are no such workout procedures. In my mind, that is a serious deficiency.
Häusler Various groups have studied the issue, with the IMF’s involvement, and we would remain involved if there were reason to discuss it again. But at this time, hedge funds are much smaller than they used to be, and they are also much less leveraged, because this is what investors want. Investors take the first hit if such a highly leveraged institution goes belly up.