Global financial confidence "very fragile", euro crisis key threat-IMF

By Anna Yukhananov

TOKYO, Oct 10 (Reuters) - The International Monetary Fundurged European policymakers to deepen the financial and fiscalties within the euro area with some urgency to restore saggingconfidence in the global financial system.

In its semi-annual check on the world's financial health,the Fund said the euro area's debt crisis was a key threat andthe risks to global financial stability had risen in the lastsix months leaving confidence "very fragile".

The euro area's plodding progress means European banks arelikely to offload $2.8 trillion in assets over two years toreduce their risk exposure, an increase of $200 billion from aprediction six months ago, the IMF estimated.

"Despite many important steps already taken by policymakers,this agenda remains critically incomplete, exposing the euroarea to a downward spiral of capital flight, breakup fears andeconomic decline," the IMF said in its Global FinancialStability Report (GFSR) released on Wednesday.

"Risks to financial stability have increased since the April2012 GFSR, as confidence in the global financial system hasbecome very fragile," the IMF said.

The report adds to the gloomy backdrop to the IMF'ssemi-annual meeting to be held in Tokyo later this week. OnTuesday, it said the global economic slowdown was worsening asit cut its growth forecasts for the second time since April andwarned U.S. and European policymakers that failure to fix theireconomic ills would prolong the slump.

Last week, Canada's Finance Minister Jim Flaherty expressedhis latest sign of frustration over progress in resolvingEurope's debt crisis by saying it represented a "clear andpresent danger".

In September, the European Central Bank agreed to buy thebonds of debt-strained governments once they have signed up fora euro zone bailout programme, restoring some market confidenceand narrowing the spread between core and peripheral debt in theregion.

But private investors still lack confidence in peripheralEuropean markets and the difference between the yields onperipheral and core debt from banks and companies remains high,threatening any recovery, the IMF said.

Under current policies, the IMF estimated European bankswill shed $2.8 trillion in assets between the third quarter of2011 and the end of 2013, higher than the $2.6 trillion it hadpredicted in April, further squeezing credit availability.

And if European policymakers do not fulfill promises toestablish a common bank supervisor, and peripheral countries donot follow through with adjustment programmes, the costs couldbe even higher, with $4.5 trillion in lost assets, andadditional impacts on employment and investment.

Risks from the euro zone could also spill into emergingmarkets, where growth is already slowing. Countries in centraland eastern Europe are the most vulnerable to financial shocks,given their exposure to the euro zone and their own entrenchedexternal debts, the report said.

And while the United States and Japan have benefited fromsafe-haven flows away from the euro zone, the IMF said bothcountries need to do more to reduce their fiscal burdens in themedium term.

The U.S. faces a so-called "fiscal cliff" -- governmentspending cuts and tax rises due to take effect early in 2013.Japan is carrying the biggest public debt burden among leadingindustrialised nations at twice the size of its $5 trillioneconomy at a time when its social welfare spending is underconstant pressure from a rapidly ageing population.

"The key lesson of the past few years is that imbalancesneed to be addressed well before markets start flagging creditconcerns," the report said.

(Editing by Neil Fullick)


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