IMF: Financial instability shifting from banks to pensions

Financial instability shifting from banks to pensions

17 April 2013

Author: Rachel Fixsen

Financial sector risk may be shifting to pension funds and other institutions as a result of global central banks’ exceptionally easy monetary policy – including bond-buying programmes – according to a new report from the International Monetary Fund (IMF). The IMF’s latest Global Financial Stability Report concludes that central banks’ low interest rates and new policies such as quantitative easing (QE) in the UK have helped stabilise the world financial system.

But the organisation also warned: “Financial stability risks may be shifting to other parts of the financial system, such as shadow banks, pension funds, and insurance companies.” It found little evidence of that the host of unconventional steps taken by central banks – including long-term liquidity provision to banks and asset purchases, which it termed ‘MP-plus’ – had seriously harmed current financial stability. But over the medium term, it said, MP-plus could be generating risks that had not yet become evident in banks.

“One reason for the failure of current bank portfolio measures to register these risks is that they may be shifting to the non-bank financial sector,” it said. “Authorities should be alert to the possibility that risks may be shifting to other parts of the financial system not examined here, such as shadow banks, pension funds, and insurance companies.”

Banks had to supervise more vigilantly in order to avoid encouraging any further such shift, it said, and added that such steps should go hand-in-hand with “enhanced supervision” of other financial institutions.

Evidence showed that the new central bank policies and low interest rates in the four major regions covered by the report – the euro area, Japan, the UK and the US – did seem to have lessened vulnerabilities in the domestic banking sector, according to the report. “The prolonged period of low interest rates and central bank asset purchases has improved some indicators of bank soundness.”

But the IMF also warned against allowing the present brand of monetary expansion to continue over a long period. “MP-plus appears to have contributed to financial stability, as intended, but risks associated with it will likely strengthen the longer it is maintained.”

The solvency of pension funds and insurance companies was being increasingly strained by a long period of low returns on assets, and that strain may be encouraging the rise in allocations to riskier asset classes such as alternative investments, according to the report. Central banks needed to plan their exit from MP-plus carefully, the IMF said, in order to mitigate future conflicts between macroeconomic and financial stability objectives.