In an update to its half-yearly global financial stability report, the IMF said central banks had been pivotal in the recovery of share prices from their Covid-19 trough. However, there was now a gap between the optimism of financial markets and the state of depression in the global economy.
The IMF said investors were “apparently betting on continued and unprecedented support by central banks”. The institution also added that the disconnect between markets and the real economy raised the risk of another slump in asset prices. Thus, they could harm recovery prospects.
The report said that “Markets appear to be expecting a quick ‘V-shaped’ rebound inactivity”. Besides, the main bellwether of Wall Street – the S&P 500 – was out of kilter. All with signs of a deep downturn in the US. This ended up creating a divergence between the pricing of risk in financial markets and economic prospects.
Global economy: what we should expect
The world’s major central banks have bought $6tn (£4.75tn) of assets since January. This is more than double the amount purchased during the global financial crisis of 2008. Unprecedented support meant share prices were back to 85% of their pre-crisis levels. However, the IMF said there was no guarantee the upbeat mood would last.
Share prices have been under pressure in recent days. This with the rising number of Covid-19 cases across the US leading to a more nervous mood. Such an outcome could add financial stress on top of an already unprecedented economic recession.
The report said expectations about the extent and length of central banks’ support to financial markets could prove too optimistic as trade tensions could resurface. Besides, there was a risk of social unrest flaring up around the world in response to rising inequality.
The IMF added that after a decade of low-interest rates and money creation by central banks corporate and household, debt was at high levels. The pandemic could bring these underlying vulnerabilities to the global economy surface.
The IMF said there were “now many economies with high levels of debt that are expected to face an extremely sharp economic slowdown”. This deterioration in economic fundamentals already led it to the highest pace of corporate bond defaults since the global financial crisis. There is a risk of a broader impact on the solvency of companies and households.
The IMF said that the unprecedented use of unconventional tools undoubtedly cushioned the impact of the pandemic on the global economy. It also lessened the immediate danger faced by the global financial system. However, we still have to take care. It is crucial avoid a further buildup of vulnerabilities in an environment of easy financial conditions.