Case of IMF’s wolf: no cry in 2006 and many cries in 2016

Howard Davies has a scathing piece on IMF and its forecasting abilities. Like a wolf it does not cry when there are expected fears (as in 2006) and cries when there are fears which apparently are not as much (as in 2016). Despite, repated such articles, IMF continues to catch our imagination. A job at IMF is almost a prerequisite to get a govt/central bank job in developing countries. He/She was at IMF after all is all that needs to be said..

Coming to the article, he picks on Apr 2006 report:

If you ask Google to find the text of the International Monetary Fund’s Global Financial Stability Report for April 2006, it helpfully asks whether you are really looking for the April 2016 version. I am sure the IMF would never seek to manipulate a search engine, but I imagine that the Fund’s public affairs officials are happy if as few people as possible can access the 2006 version. It was not one of the IMF’s most prescient publications.

Issued just as the first doubts about the subprime mortgage market in the United States were emerging, it presented a rosy view of the present and the future. The authors did address whether global imbalances, derivatives, and subprime mortgages posed a threat to financial stability. But they liked what they saw.

In the mortgage market, the IMF saw prospects of a soft landing. It believed that global imbalances would unwind gradually. And it paid tribute to the ability of US markets and financial firms to create innovative instruments to “attract and sustain high levels of capital inflows.” Indeed, US markets were described as “deep, flexible, sophisticated, and by and large well-regulated.”

But the most remarkable misjudgment appears in the discussion of credit risk transfer. The IMF concluded that “a wider dispersion of credit risk has derisked the financial sector.” As a result, “banks should become more resilient and financially stable,” the consequences of which “should be seen in fewer bank failures and more consistent credit provision.” We have entered an era in which “commercial banks may be less vulnerable to credit or economic shocks.”

This was not, shall we say, the IMF’s finest hour. It brings to mind John Kenneth Galbraith’s famous quip that economic forecasters were put on Earth to make astrologers look good. So maybe we should take the IMF’s more recent reports, which are full of dark warnings, with a grain of salt. It would not be surprising if, even a decade on, the Fund continues to be influenced by its failure to warn in good time that a global financial crisis – the worst in nearly 80 years – was a material risk.

In 2016, it sees risks everywhere:

And, indeed, there are signs that the IMF now sees trouble everywhere it looks. But, though the Fund’s economists may be at risk of forecasting ten of the next three crises, it would be unwise to dismiss their concerns entirely on the basis of past errors. (That has been the trivializing response of “Brexit” campaigners to warnings by the European Union, the IMF, and the OECD, that withdrawal from the EU would cause severe damage to the British economy.) The Fund makes some strong points, but others appear much less well founded.

The IMF’s strongest arguments concern China and European banks. It is surely true that the buildup of debt in China calls for close monitoring, and that corporate deleveraging, which is urgently required, “should be accompanied by a strengthening of banks and social safety nets, especially for displaced workers in overcapacity sectors.” There is no reason why that cannot be achieved – the overall balance sheet of China, Inc. remains strong – but the domestic distributional consequences will require careful management.

The second big challenge that the IMF identifies – excess capacity in the eurozone banking system, and the related problem of non-performing loans – is also, in principle, solvable. The European Central Bank is well aware of the risk from weaker banks; but, with the eurozone economy heavily reliant on bank credit, addressing it is not straightforward. And continued massive ECB intervention in the bond markets can only postpone the day of reckoning, not avert it.

But the third problem detected by the IMF may not be a problem at all. The Fund argues that the life insurance industry could be a future source of systemic risk, and should therefore be subject to macroprudential stress testing, or counter-cyclical capital buffers, on the model used for banks.

The first recommendation is curious: IMF staff seem unaware that a stress-testing regime for insurers has already been put in place in some jurisdictions, notably the United Kingdom. Indeed, there are stress tests, and so-called reverse stress tests, whereby insurers are required to describe what would need to occur to make them fail. And of course insurers did – almost universally – pass a real-world stress test in the form of the financial crisis. The one big failure, AIG, occurred because of problems in its non-insurance business.

Actually, you never know one of these risks might just pan out. Which will not be a victory as after listing so many one might atleast come true.

A case of once bitten many times shy..

It is such a pity how IMF continues to rule the world policy through its vast alumni spread across the globe. As a so called global thinker one gets to opine on every economy and sector despite knowing nothing at all about the topic.

One Response to “Case of IMF’s wolf: no cry in 2006 and many cries in 2016”

  1. Linkfest - Kairos Capital Says:

    […] IMF forecasting folly (Mostly Economics) […]

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