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IMF warns of risks in financial markets

Fallout from this year’s US home mortgage crisis will likely continue for some time and could further slow global economic growth, the International Monetary Fund said Monday.

Banks, financial companies and regulators should review risks from weaker credit standards and the expansion of investment instruments tied to risky mortgages, the IMF said in a twice-yearly report on global financial stability. “Credit conditions may not normalize soon, and some of the practices that have developed in the structured credit markets will have to change,” the IMF said. “At the same time, the global economy entered this turbulent period exhibiting solid growth, especially in emerging market countries,” the report said. Still, risks to economic growth have “increased significantly” since March, the IMF said. During that time, rising defaults on US subprime mortgages - home loans with low initial interest rates to lure buyers with weak credit histories - sent shockwaves through financial markets. “The potential consequences of this episode should not be underestimated and the adjustment process is likely to be protracted,” IMF analysts said.

Subprime mortgages allowed banks to farm out credit risk and move home loans off their balance sheets. But the IMF criticized the way that investment products backed by those mortgages flourished with little attention until this year’s crisis. “The dispersal of structured credit products has substantially increased uncertainty about the extent of the risks and where they are ultimately held,” the report said. Policymakers should review the role of credit rating agencies - which are supposed to keep tabs on risky investment products - and how financial institutions manage the risk of a credit squeeze, the IMF said. In a special study of emerging economies, the IMF underscored the benefits of well-developed domestic financial markets. While prospects of economic growth are the main factor in attracting foreign investment, “equity market liquidity and financial openness also help attract capital flows,” IMF analysts said. Capital flows to emerging markets have grown almost sixfold in the last five years, the report said. (m&