An uneasy calm prevails in financial markets over the first increase in US interest rates in almost a decade, which is widely expected later this month, according to a leading group of central bankers.
The restrained reaction, especially from emerging markets, to signals from the US Federal Reserve that rates will start to rise have been encouraging, the quarterly update from the Switzerland-based Bank for International Settlements (BIS) said. But, it said, it expected volatility to return.
“Calm has reigned over financial markets, but it has been an uneasy calm,” said Claudio Borio, the head of the BIS monetary and economic department.
With interest rates in many parts of the world testing “the boundaries of the unthinkable day after day”, Borio said it was not surprising how sensitive markets remained to the actions of major central banks.
“There is a clear tension between the markets’ behaviour and underlying economic conditions,” Borio said. “At some point, it will have to be resolved. Markets can remain calm for much longer than we think. Until they no longer can.”
The report also analysed recent investment, lending flows and debt issuance trends.
Between June and September, when global markets were rocked by worries about China’s economy, slumping commodity prices and a surging dollar, issueances of bonds in emerging markets declined the most since the end of the financial crisis in 2009.
Across all markets, debt issuance dropped almost 80% compared with both the second quarter of this year and the third quarter of 2014.
“The financial vulnerabilities in emerging market economies have not gone away,” Borio said. “The stock of dollar-denominated debt, which has roughly doubled since early 2009 to over $3 tn, is still there.
“In fact, its value in domestic currency terms has grown in line with the US dollar’s appreciation, weighing on financial conditions and weakening balance sheets.“
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