Emerging Markets, September 2011

The IMF’s Financial Counsellor and Director, José Vinals, is calling upon a mixture of capital markets, private investment, public money and bank earnings to get the world’s banking system through its increasing needs for capital.

After saying the world financial system is “in the danger zone” following the launch of a new report on global financial stability, he told Emerging Markets it was vital for banks to build stronger capital buffers to enable them to raise funding at reasonable terms. Asked where that capital buffer should itself come from, he identified several sources.

“One is internal to the banks,” he said. “Banks have earnings; instead of distributing those earnings they could use them to recapitalize.” They could also convert other reserves into capital, and sell assets, he said. “But one should be careful, because what we don’t want is banks to start deleveraging very fast, because that’s something that could hurt the economy.”

When internal generation is not sufficient, he said banks should go to the markets, saying funds are “best raised through common equity.” The appetite for investors for European bank shares, so soon after being burned by developed world banks in 2008, is open to debate, but Vinals added that private markets could be a useful additional source.

“I think there is money in the world to come into banks,” he said. “One should not underestimate the role that private markets can play here.” He cited the example of Warren Buffett investing in Bank of America, and added: “There is money in sovereign wealth funds and other investors which could also be interested in some of these investments.” Asked whether sovereign funds and other private investors would be willing to support banks after their bad experiences in 2008, he cited the example of Spanish banks, the Caxas, raising private capital. “We should give a chance to this,” he said.

In those cases where there is not enough capital he said banks should go to public funds, “but the sequence is private sector, not public sector, not the other way around.” Public capital should be accessed “under certain conditions which ensure the stability of the bank in the short term, but also that follow a roadmap that would heal its balance sheet so the government or public capital can get out of the bank afterwards,” he said. “You don’t want a nationalized banking system. It needs to be done in a very careful manner in order to strengthen stability now, with the proviso that this capital will be repaid and the government will be out of the banking system.”

In the Eurozone, he underlined the importance of the European Financial Stability Facility and called for swift ratification in member states. “It is very important that the EFSF, which has been enhanced in terms of flexibility, achieves its effective lending capacity as soon as possible… This is a must.”

He welcomed the recent moves by European central banks to attract dollar liquidity into the market, saying the act was “absolutely essential” and “very useful”. Asked if they were sufficient, he said Europe should work on structural issues around health of public finances and capital buffers for banks. “What the Eurozone needs is once and for all a comprehensive policy approach. This is something we are seeing increasing signs of. The single monetary policy must be embedded in a proper architecture of economic and financial governance. The euro project is not only fundamental for Europe but very fundamental for the world.”

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