MercoPress. South Atlantic News Agency

IMF predicts Europe will weather 2008 credit-crunch impact

Economic growth will slow in most European economies in 2008, with a number of countries vulnerable to tightening credit because of rapid rises in housing costs or high levels of private debt, the International Monetary Fund has reported.

However, according to the IMF Regional Economic Outlook European economies were in a strong position to weather the credit storm, which may have the benefit of forcing tighter fiscal discipline. "Protracted credit market tightness constitutes a key downside risk to this outlook, especially for advanced economies," the report said. The global credit crisis was sparked by rising defaults in the United States on subprime mortgages, home loans provided to borrowers with weak credit. Those problems spread to other areas as those debts were repackaged with other less risky debts and sold to investors. Banks worried about exposure then balked at taking on new debt, causing liquidity to dry up. Advanced economies are vulnerable to the possibility of a prolonged deterioration of business and consumer sentiment, the report said. The most vulnerable are Belgium, France, Ireland, the Netherlands, Spain and the United Kingdom because of recent rapid increases in house prices. Several emerging European economies, notably Bulgaria, Croatia, Estonia, Hungary and Latvia, have high levels of private debt and could suffer if interest rates rise sharply, the report said. "On the positive side, financial turbulence may well herald a healthy correction from past exuberance, thus strengthening the foundations for future growth". According to the report while some markets remain under stress, others have functioned well, the report said, suggesting that the impact could be temporary. "The market turbulence may set in motion a process that brings risk spreads and asset prices closer to fundamentals, improves credit discipline, and gradually diminishes external imbalances in emerging economies" the report said. The IMF said regulatory systems need to keep pace with increasing innovations in the markets, as European economies evolve from the old model of domination by relatively few banks. "As the financial turbulence triggered by the meltdown of the US subprime mortgage market has brought home, financial innovation comes with risks," the report said. "Specifically, financial innovation often exploits interstices in existing prudential arrangements that can prove problematic. Moreover, in the context of financial globalization, turbulence spreads swiftly around the globe, sparing few countries from its adverse effects on confidence and real economic activity." Regulators should not try to discourage innovation, the IMF said, saying the benefits and causes of risks needed to be known before officials rushed to tighten regulation. "In this respect, the initial reaction to the recent turbulence is encouraging, indicating a willingness by policymakers to preserve the benefits of financial innovation while confronting the prudential vulnerabilities".