Ahead of the meeting of G20 leaders in London, the Institute of International Finance is calling for countries to increase their fiscal stimulus efforts, and for policymakers to adopt the “bad bank” approach to restarting credit markets.

It stresses that immediate action is needed to break the damaging negative feedback loop between the financial crisis and the global recession, arguing that “the continued uncertainty surrounding the magnitude and valuation of toxic assets has become the fault line of the financial crisis”.

“Market instability and lack of confidence point clearly to the benefits of a ‘bad bank’ approach, where troubled assets are completely removed from banks’ balance sheets,” IIF managing director Charles Dallara maintains. “Hesitation over up-front fiscal costs and difficult pricing issues fails to recognize that the real long-term costs to the economy of inaction may well be much greater than the net fiscal imbalances over time that are created by a ‘bad bank’ approach. Action is needed now and a pragmatic approach weighing both mark-to-market and cash flow valuations can lead us out of this thicket.”

The IIF also pointed out that firms are strengthening their practices in such areas as risk management, liquidity management and governance, and it said that the industry also recognizes the need for fundamental reform of compensation practices to align compensation with shareholder interests and long-term, firm-wide profitability.

In addition to the current economic crisis, the G20 summit will also consider regulatory reform. To that end, the IIF called for the establishment of a Global Financial Regulatory Coordinating Council, reporting to the Financial Stability Forum. Comprised of regulators and central banks, this council would play a central role in harmonizing standards; enhancing cross-border cooperation; coordinating supervision; and macroprudential oversight of the banking, insurance and securities industries, the IIF said.

The group is now forecasting -2% in global GDP growth this year. It also drew attention to the sharp economic slowdown that is now in progress in emerging market economies, and the dramatic decline in net private capital flows to these economies. With that in mind, it said that the G20 should immediately expand the resources of the International Monetary Fund, the World Bank and the regional development banks.

“It is imperative that a clear signal emerge from the G20 Summit of the specific joint actions to be taken, not only to fight the sharp decline in economic activity seen around the globe, but also to stave off any intentional or unintentional protectionist measures, which would severely deepen the crisis and endanger future prosperity,” said Josef Ackermann, chairman of the IIF board and chairman of Deutsche Bank AG.

IE