IMF sees global toxic assets hitting $4.1 trillion in 2010

The world organization in charge of stabilizing the global financial system has increased its loss estimates related to the financial crisis.

The International Monetary Fund said it now expects toxic assets to total up to $4.1 trillion by the end of 2010. The numbers are from the fund's semiannual Global Financial Stability Report, released Tuesday. However, it should be noted that for the first time the report includes loans and securities originating in Europe and Japan, as well as the United States.

Write-downs on U.S.-originated assets are now projected to total $2.7 trillion, up from $2.2 trillion projected in the IMF's interim report released in January. Europe- and Japan-originated asset write-offs are expected to total about $1.3-1.4 trillion.

Further, the IMF warned that the challenges to restoring stability to the system remain significant, and called for additional fiscal stimulus and other government action to reestablish a stable financial system.

Without the additional action, banks will curtail lending in months, worsening both the financial crisis and the global recession, the IMF said. Banks have raised about $900 billion in additional equity globally, but the fund added that even more equity is needed to boost investor confidence and provide a safety cushion against further losses.

What's more, the IMF argued that even with concerted, substantial state action, "the de-leveraging process with be slow and painful."

"Continued decisive and effective action is needed to preserve and strengthen these first signs of improvement, and to help provide a more stable and resilient platform for sustained global growth," José Vinals, financial counselor and director of the IMF's Monetary and Capital Markets Department, said in the report.

Should banks reduce lending?

Meanwhile, Columnist David Weidner took a different approach to the problem of bank capitalization. Weidner Wednesday argued that one way for banks to preserve capital is to stop lending, saying lending now represents a bad business practice. "No bank CEO can reconcile more lending with a deteriorating economy -- especially one in which economic conditions are the worst than they've been in generations . . ." Weidner said.

Of the $4.1 trillion toxic asset estimate, the IMF said banks would suffer credit-related losses of about $2.8 trillion in the 2007-2010 period; banks have already written off about $1 trillion of that amount, the organization said.

The IMF estimated 2008 U.S. bank losses at $510 billion, with another $510 billion expected through 2010. Euro-zone 2008 bank losses totaled $154 billion, but are expected to surge to $750 billion by the end of 2010.

Recommends temporary bank nationalizations only

Further, the IMF added that temporary bank nationalization to attract private investment may be necessary, but added that the intervention should be undertaken "only with the intention of restructuring the institution to return it to the private sector as rapidly as possible."

The IMF also said that the U.S. government's stress test for banks "may prove an important element in banks' incentives to participate" in the U.S. Treasury's Public-Private Investment Program.

The monetary organization also called for developed nations to approve more fiscal stimulus packages. "It is clear that stimulative policies are needed now," the report said. The Group of 20 nations has approved about $2 trillion in fiscal stimulus to-date, the IMF said.

Economic Analysis: The report offer did not mince words on the scope of the financial crisis, but here are two qualifiers. First, although the IMF clearly sees stressed credit markets in the quarters ahead, one can see the outline of credit market stabilization. Second, the $4.1 trillion asset write-off statistic is a bit misleading in that it for the first time it includes loans and securities originating in Europe and Japan: without those two regions, one can detect a reduction in the rate of growth of toxic assets.

Therefore, investors should not take away from the IMF report that 'the financial crisis is spiraling downward.' The tone of the report is clear: toxic asset and related bank write-offs are extensive, monetary stabilization measures must continue and expand, and more fiscal stimulus will be needed to generate demand. If the major economies implement the above, credit markets will normalize, over time, and both U.S. and global economic growth will resume.

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