MARKETS and businesses are becoming hooked on ultra-low interest rates and may react badly when the time comes to tighten monetary policy, the International Monetary Fund (IMF) warned central banks yesterday.
The very loose policy has supported banks as planned, the global financial stability assessment found, but may increase instability in other parts of the financial sector like insurers, pension funds and shadow banks.
And by holding rates low for such a long time, the IMF also warned central bankers are driving investors to search for yield in potentially excessively risky investments.
“A prolonged period of low interest rates may create incentives to increase leverage beyond manageable levels, extend the decay in underwriting standards, and reinforce the search for yield,” the report warned.
And as markets get used to the low rates, the policy “could result in increased vulnerabilities, raising the risk of market instability when rates do eventually rise.”
The IMF pointed to the particularly long period of low rates and sustained quantitative easing in the US where riskier lending is already taking place.
“Corporate bond issuance is more elevated than usual at this point of the cycle and is increasingly geared toward less-productive uses, such as funding equity buybacks,” it found.
The report also told the Eurozone to move more rapidly towards a fully-fledged banking union, contrasting with Germany’s desire to slow the process down. Setting tough deadlines to speed up the process would improve stability in the troubled currency union, it said.