United News of India
Washington DC/New Delhi, Apr 14: The outbreak of COVID-19 has dealt an unprecedented blow to global financial markets, according to April 2020 Global Financial Stability Report released on Tuesday.
Risk asset prices have plummeted and borrowing costs have soared, especially in risky credit markets, the report said.
Emerging and frontier markets have experienced the sharpest portfolio flow reversal on record.
The priority is to save lives and to support the people and companies most affected by COVID-19.
Fiscal, monetary, and financial policies should be used to support economies stricken by the pandemic, the report said.
The sharp decline in economic output and sudden increase in borrowing costs could hurt economies with limited fiscal space, high financing needs, or external financing vulnerabilities, which include Brazil, Colombia, Egypt, Hungary, India, South Africa, and Turkey.
Countries where banks have high nonperforming loans, significant exposures to state- owned enterprises, and large holdings of government bonds are vulnerable to an intensification of the sovereign-financial sector feedback loop.
For example, in India, where nonbank financial institutions had already been under intense funding pressure, following two defaults before the COVID-19 shock, state-owned banks have a sizable stock of bad loans and significant links to nonbank financial institutions, the report maintained.
International cooperation is essential to tackle this extraordinary global crisis, according to the report.
The coronavirus (COVID-19) pandemic presents a historic challenge. In mid-February, when market participants started to fear that the outbreak would become a global pandemic, the prices of equities fell sharply, from previously overstretched levels.
In credit markets, spreads skyrocketed, especially in risky segments such as high-yield bonds, leveraged loans, and private debt, where issuance essentially came to a halt. Oil prices plummeted in the face of weakening global demand and the failure of the OPEC+ countries to reach an agreement on output cuts, adding a further leg to the deterioration in risk appetite.
These volatile market conditions led to a flight to quality, with yields on safe-haven bonds declining abruptly.
A number of factors amplified asset price moves, contributing to a sharp tightening of financial conditions at unprecedented speed. Signs of strain emerged in major short-term funding markets, including the global market for US dollars—a development reminiscent of dynamics last seen during the financial crisis a decade ago.
Market liquidity deteriorated considerably, including in markets traditionally seen as very deep. Leveraged investors came under pressure, with some reportedly forced to close out some of their positions in order to meet margin calls and rebalance their portfolios.
Emerging and frontier market economies are facing the perfect storm. They have experienced the sharpest reversal in portfolio flows on record, both in dollar terms and as a share of emerging and frontier market GDP. This loss of external debt financing is likely to put pressure on more leveraged and less creditworthy borrowers. This may lead to a rise in debt restructurings, which could test existing debt resolution frameworks.
