IMF warns of effect of first world monetary tools on other economies

Also cautions that although measures have not harmed market liquidity, risks might have shifted to other parts of the financial system

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The International Monetary Fund (IMF) has cautioned that the measures by central banks of the advanced nations to push the economy up to the recovery path might have spilled risks to other economies.

In fact, it also cautioned that the measures, though has not harmed market liquidity, risks might have shifted to other parts of the financial system.

The global financial stability report the IMF said that post-financial crisis, the central banks in the United States, the United Kingdom, Japan and the Euro area have taken many unconventional measures to address the vulnerabilities in the system. The unconventional monetary policy that the IMF called MP-plus includes prolonged periods of very low interest rates, quantitative easing, and indirect and direct credit easing.

"Though this has improved some bank soundness indicators, and has not harmed market liquidity, it is possible that the financial stability risks are shifting to other parts of the financial system, and spilling over to other economies, the IMF said.

Many a quarters have expressed concern that increase in money supply in the advanced world would jack up commodity prices worldwide and have repercussions for emerging market economies like India, struggling to contain inflation.

After standard tools turned ineffective in the wake of collapse of Lehman Brothers, the US Federal Reserve resorted to quantitative easing of increasing money supply. The central bank on September, 13, 2012 had announced a new $40 billion a month, open-ended, bond purchasing programme of agency mortgage-backed securities and also to continue extremely low rates policy until at least mid-2015, called QE3. This stimulus programme allows the Federal Reserve to relieve 40 billion dollars per month of commercial housing market debt risk.

On 12 December 2012, the Federal Open Market Committee had announced to raise the amount of open-ended purchases from $40 billion to $85 billion per month. This is sometimes referred to as "QE4".

Similarly, the Bank of Japan had announced it will inject $1.4 trillion into the Japanese economy to end deflation and push up economic growth. The Japanese economy is in a recession, and the country’s exports are in a slump.

The IMF report also cautioned that these steps cannot be sustained for long-term.
 
“Central bank liquidity no longer appears to significantly affect interbank market spreads in the United States and the United Kingdom. This could indicate that future central bank exit from these markets would not affect interbank spreads there. In the euro area and Japan, however, central bank appears to continue to mask more elevated interbank market spreads due to increased sensitivity to counterparty risk.”, the report said.

The report said that though these policies have short-term positive effects, the longer they are maintained, the greater the long-term risks involved.

The report said that central banks face challenges leaving markets after intervening heavily, and that the policy mistakes made during such an exit would affect the functioning of the market.