October 10, 2013
Last week, Christine Lagarde, managing director of the International Monetary Fund (IMF), announced that the global financial system is “not safe” after the fall of Lehman Brothers.
Since then, the IMF is “concerned” about the Federal Reserve Bank (FRB) purchasing mortgage-backed securities (MBS) at $85 billion a month to prop up the global economy.
Jose Vinals, financial counselor at the IMF explained: “The Fed controls the policy tools, but does not control market rates, especially long term interest rates. This may have some systemic consequences. The main financial impact on emerging markets is likely to be a tighter financial environment, which may mean capital outflows that could be significant in a number of cases. These countries have more corporate leverage than ever, more consumer debt than ever…they have to pay more attention to these financial vulnerabilities.”
The IMF released the Global Financial Stability Report (GFSR) that outlines who much of a challenge containing the “side effects” of the MBS will have on an international transition within the economy to build investor confidence.
Top financial regulators such as the FRB, the Securities and Exchange Commission (SEC), the Commodity Futures Trading Commission (CFTC) and the Federal Deposit Insurance Corporation (FDIC) are being represented by the GFSR.
Currently, the purveying philosophy is that as a new regime takes control, higher interests rates and even more uncertainty will plague the markets.
As the FRB begins the process of halting their 3rd round of quantitative easing (QE3), the effect on the global market could cause economies to rise quickly without anything to back them up in the long run.
The IMF stated: “At the same time, the Fed must take care in calibrating an exit. If it moves too soon, by cutting its bond purchases before the end of the year, for example, the central bank could stunt growth for years.”
A long term government shutdown in the US could be “quite harmful” to the economy.
The IMF points out: “Even more importantly, a failure to promptly raise the debt ceiling, leading to a U.S. selective default, could seriously damage the global economy. The major economies must urgently adopt policies that improve their prospects. Otherwise, the global economy may well settle into a subdued medium-term growth trajectory.”
Concurrently, the issue of raising the US debt ceiling is at the forefront of the debate as federal government spending is being projected as dropping by $175 billion, according to Goldman Sachs.
With investors lending to the US at higher interest rates and Jack Lew, Secretary of the US Treasury warning that the US is quickly running out of cash, “this is our early-warning radar telling us that the bond market is beginning to focus on this as an increasing probability.”
Lew said : “The reality is that if we run out of cash to pay our bills, there is no option that permits us to pay all of our bills on time, which means that a failure of Congress to act would for the first time put us in a place where we’re defaulting on our obligations as a government.”
It is the stance of the US Treasury that if the debt ceiling is not raised by October 17th, the federal government will have to operate with cash in hand and that “could severely impact financial markets and the broader economy.”
The looming default of the US government on debt to the FRB is being supported by the Republican Party as not such a bad scenario.
Certain GOP members claim that if the US defaulted, the US Treasury would have to find a new way to get out of the financial hole.
Current payments on debt are an estimated $20 billion per month. Revenue from federal income is stated at $230 – $240 billion per month.
With the most “important” bills being paid first, the US Treasury is directing funds to bondholders without having enough cash to pay off the monthly debt payments.