The IMF warns of a “disconnection” between the financial markets and the real economy

Investor attitude creates a "disconnect" between markets and the real economy

Investor attitude creates a “disconnect” between markets and the real economy.

The International Monetary Fund (IMF) has warned that a “disconnect” is taking place between financial markets and the real economy that could jeopardize the global economic recovery, according to the June update of its report on global financial stability.

“The disconnect between financial markets and the global economy can be illustrated by the recent decoupling between the rise in the US stock markets and the contraction in consumer confidence, casting doubt on the sustainability of the ‘rally’ were it not for an impulse provided by central banks, “IMF economists Tobias Adrian and Fabio Natalucci have warned.

“Investors appear to be betting that strong central bank support will sustain a rapid recovery even as economic data points to a deeper-than-expected recession,” they warned.

This Wednesday, the Fund updated its macroeconomic projections for this year and next. It revised its forecast for a fall in global GDP in 2020 substantially downward, anticipating a 4.9% recession, the deepest since the Great Depression and much more severe than the projected 3% contraction last April. On his side, he also estimated that the exit from the crisis in 2021 will be less vigorous than expected, with a rebound of 5.4%, compared to 5.8% in the previous forecast.

In the IMF’s opinion, market confidence has rebounded not only due to central bank actions, but also due to the reopening of several economies and the relaxation of confinement measures against Covid-19.

This attitude on the part of investors at the global level carries risks for the economy, because if there is a correction in the price of assets if their “risk appetite” fades, it is possible that this is a threat to the recovery.

According to the Fund, this asset price correction could occur if the depression is deeper and longer than investors anticipate, if there is a second wave of the virus, or if expectations of support from central banks turn out to be “very optimistic”.

This risk is in addition to other vulnerabilities in the financial system that have “crystallized” thanks to the Covid-19 pandemic, such as high levels of debt and losses resulting from insolvencies, something that “will test the resilience of banks in some countries”.

Adrian and Natalucci have warned that the correction in the financial markets, especially if it is amplified by the vulnerabilities of the system, “could result in a sharp adjustment in financial conditions, thus limiting the flow of credit to the economy.”

“Financial stress could worsen an economic recession that is already unprecedented, making the recovery even more challenging,” economists have added.

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