IMF Calls Gold One Of The Few Safe Assests

April 12, 2012 at 12:18

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A growing shortage of safe assets poses a new threat to global financial stability, the International Monetary Fund warned on Wednesday.

Sovereign debt crises are reducing the number of governments that investors trust to issue “risk-free” bonds just as new financial regulations are increasing demand for safe securities from banks.

The report shows how reforms in the wake of the 2007-09 crisis may create new pinch points in the global financial system that could cause trouble in the future.

“Safe-asset scarcity could lead to more short-term volatility jumps, herding behaviour, and runs on sovereign debt,” said the IMF in a chapter of its new Global Financial Stability Report. “In the future, there will be rising demand for safe assets, but fewer of them will be available, increasing the price for safety in global markets.”

Safe assets play a range of roles in financial markets. Government bond yields are used to price other assets, banks and insurers hold highly-rated bonds as buffers of capital and liquidity against times of crisis, and they are used as collateral against derivatives and short-term loans.
If there were a shortage of safe assets, it could exacerbate a future financial crisis as investors scrambled for the limited supply available, pushing their prices ever higher.

The IMF said that the role of central banks in providing large amounts of short-term, safe, liquid assets may be hiding the problem in the short term. For example, the European Central Bank has supplied large amounts of short-term liquidity to its banks.

The Fund identified $74.4 trillion of potentially safe assets today, including gold, investment-grade government and corporate debt, and covered bonds. But it warned that 16 per cent of the potential safe government debt supply to 2016 could disappear if governments continued to borrow at current rates and hence made their debt more risky.

To address the issue the fund called on policy makers to manage the demand for safe assets and to try to increase the supply.

To manage demand, it advised that banks be required to set aside some capital against sovereign debt, to avoid creating an artificial appetite for government bonds; it called for careful implementation of new liquidity rules that could increase bank demand for safe assets by $2 trillion to $4 trillion; and it said that central clearing houses should adopt flexible collateral rules so as not to tie up too many safe assets.

On the supply side, it said that safe assets were another reason for countries to tackle their fiscal problems, so their debt would still be seen as safe. It also suggested reforms — such as rules to make sure issuers share in losses or wider use of covered bonds — so that private securitisation could become a source of safe assets again.

Covered bonds have security against a portfolio of mortgages and a claim on the underlying bank, so they are seen as particularly safe.