The International Monetary Fund today released the latest *Global Financial Stability Report* (GFSR). The 228-page document includes an Overview, and Chapters dealing with Global Financial Market Developments, Risk Transfer and the Insurance Industry, and Institutional Investors in Emerging Markets.

Prepared by the IMF’s International Capital Markets Department, this particular issue draws, in part, on a series of informal discussions with commercial and investment banks, securities firms, asset management companies, insurance companies, pension funds, stock and futures exchanges, and credit rating agencies throughout member countries. It reflects information available up to March 8, 2004 and has benefited from comments and suggestions from staff in other IMF departments, as well as from Executive Directors following their discussions of the *Global Financial Stability Report* on March 26, 2004.


Global financial vulnerabilities have subsided further since the September 2003 *Global Financial Stability Report*. At present, financial markets seem to be enjoying a “sweet spot”. Economic activity and corporate earnings have made a strong recovery, most noticeably in the United States but also in other parts of the world. At the same time, inflation remains quiescent, enabling the monetary authorities to maintain very low policy interest rates.

Some highlights:

·Executive Directors welcomed the continued improvement in international financial market conditions and the brighter prospects for global financial stability going forward. The improved outlook is supported by a firming of the global economic recovery, rising corporate earnings, and a strengthening of corporate balance sheets.

·Directors emphasised that the improved outlook for financial stability is not without risks. These risks will require continued vigilant monitoring, not least in view of their interconnected nature. The main risk to the benign outlook for global financial markets is that such an outlook rests on a very fine balancing of opposing economic forces.

·Directors also discussed the potential for market instability arising from the large global external imbalances, including the possibility that adverse developments in the currency markets might spill over into other asset markets.

·Directors welcomed the work being undertaken in the context of the current and forthcoming issues of the GFSR on the range of regulatory and disclosure issues raised by the transfer of risk from banking to nonbanking onstitutions in mature markets. A prominent example is the rapid growth of the hedge fund sector where, despite closer counterparty and investor monitoring, there appears to be a need for broader and more systematic transparency of exposures and practices. (Directors noted that future staff work will focus on the hedge fund and pension fund industries.)

·Directors welcomed the conclusion of the staff’s analysis that the reallocation of credit risk to the insurance sector, together with improvements in risk management in the sector, appears to have contributed to enhanced overall financial stability.

·Directors viewed the development of local securities markets as key to ensuring proper risk management by the insurance industry. In view of the rapid growth and increasing sophistication of the activities of local institutional investors involved in both local and international markets, it will also be important to persevere with strong efforts to enhance the risk management skills of both investors and regulators.

·Emerging bond markets have benefited from the abundance of liquidity and the search for yield, as well as from the improved credit quality of many emerging market sovereign and corporate borrowers. As a result, the EMBI yield spread has declined to near record lows. Capital flows to emerging market countries have increased, and borrowing costs are much lower, compared with recent years. Including prefinancing done last year, many emerging market countries have secured a substantial portion of their 2004 external financing needs.

GFSRs assess global financial market developments with the view to identifying potential systemic weaknesses. By calling attention to potential fault lines in the global financial system, the regular report seeks to play a role in preventing crises, thereby contributing to global financial stability and to the sustained economic growth of the IMF’s member countries.