IMF under pressure to produce global response

IMF MEETING:World financial leaders descend on Washington this weekend, but it is unlikely a hoped-for coherent plan will be agreed, writes Arthur Beesleyon Wall Street

'I REALLY got to go - Bernanke's starting on TV right now." The line goes dead.

When Ben Bernanke, the chairman of the US Federal Reserve, makes a speech, Wall Street hangs on every word.

In a time of exceptional uncertainty, market participants are on high alert. A month after the subprime debacle erupted into a financial inferno of unparalleled scale, global financial leaders descend on Washington this weekend for the annual meetings of the International Monetary Fund (IMF) and World Bank.

Following a co-ordinated series of emergency interest-rate cuts throughout the international system this week, finance ministers and central bank governors from the G7 group of leading industrial nations are also meeting today in the US capital.

While all signs point to an effort to develop a coherent, overarching response to the crisis by the international community, there seems to be scant prospect that the meetings this weekend will result in agreement on such a plan. "The psychology is so damaged that it's going to be hard for the authorities to do anything that's going to impress people that things are going to get better," says Rod Smyth, chief investment strategist with Riverfront Investment Group in Richmond, Virginia.

Never before have these meetings taken place against the backdrop of such sustained turmoil in the financial system.

With dozens of seemingly stable institutions uprooted throughout the world and governments intervening daily in financial markets, the ructions have redrawn the landscape of international capitalism.

As many analysts fear there is worse to come, a restoration of calm seems far away.

Almost a week after the US Congress agreed a historic $700 billion (€512 billion) bailout for US institutions, and days after the Fed decided to buy commercial paper from companies, the Dow Jones industrial average traded below the 9,200 level yesterday morning.

Having fallen below the 10,000 threshold this week for the first time in four years, yesterday's opening level was almost 35 per cent below the peak reached by the index this time last year. With no sign of recovery imminent, the Dow has already dropped more than 1,000 points since the bailout plan was signed into law last Friday.

In a dire assessment of current conditions, the latest World Economic Outlook forecast from the IMF says the global economy is set for a significant downturn.

With the US and Europe either in or on the brink of recession, the organisation said the upheaval in the financial markets would exact a heavy economic toll as markets wrestled with a crisis of confidence and global credit was choked off.

Credit conditions remained difficult, it said, restraining global growth prospects. "The world economy is now entering a major downturn in the face of the most dangerous shock in mature financial markets since the 1930s," the forecast said.

With investors constantly on the look-out for the next sign of weakness, the IMF's forecast that anticipated losses from the turmoil will more than double to $1.4 billion only adds to a sense of foreboding.

The failure of political manoeuvres to appease frazzled nerves has led to calls for greater international co-ordination.

Nowhere is this more so than in Europe, where the force and scale of government interventions has varied widely. European leaders have already baulked at a proposal to set up a bank bailout fund similar to the US plan.

"In Europe, the main stumbling block is Germany. Without Germany, I think we already would have a European approach, because they think: 'our banks are safe, we don't want to pay for other people'," says Daniel Gros, director of the Centre for European Policy Studies in Brussels.

"They, of course, aren't the only ones to have that delusion, but it's particularly strong. Unless basically you have a big problem with Deutsche Bank, they won't change."

The anger of German chancellor Angela Merkel at the Government's decision to provide sweeping public guarantees to Irish banks stands as a vivid example of the extent to which attitudes vary within the EU. Although Merkel's government has moved to guarantee the savings of German depositors, she remains steadfastly opposed to the creation of an EU rescue fund.

Still, there is increasing pressure for a co-ordinated European response.

"Europe must prepare to put in place a collective line of defence," IMF director general Dominique Strauss-Kahn said this week. "The stability of the world economy depends on it."

Despite public signs of political resistance to such a measure, IMF chief economist Olivier Blanchard said policymakers were moving in the direction of adopting a broader response to the chaos.

"Events focus the mind," he said. "What's absolutely essential to solve this financial crisis is the perception by the public and by the markets that there is a coherent plan.

"We're now getting to the point where all governments understand that it has to be a coherent plan . . . From there to actually doing it, there are still a few steps, but that realisation is now here."

Blanchard said it was probably "too much to ask" that G7 leaders emerge from the meeting today with an agreed, specific course of action, but was confident some progress would be made this weekend and in the coming weeks.

But US treasury secretary Hank Paulson has already moved to play down speculation that the G7 will unveil any co-ordinated initiative this weekend. G7 countries were likely to pursue their own initiatives when it comes to using tax and expenditure policies to respond to the crisis, he said.

"When we look at the G7, we have very different countries, economies of different sizes, financial systems with different needs. And so it would not make sense to have identical policies."

The Bush administration is poised to introduce a further expansion of its market interventions.

Paulson has suggested the US government may go so far as to take equity positions in financial institutions to shore up their balance sheets.

Such investments would be akin to positions taken by Warren Buffett in Goldman Sachs and General Electric.

With the US presidential election campaign well into its final month, such a measure by an outgoing Republican administration would be extraordinary.

Yet Paulson has indicated in clear terms that this is the direction in which the government is going.

"It is the policy of the federal government to use all resources at its disposal to make our financial system stronger," he said. "We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalisation of financial institutions of every size."

Early in this crisis, every government intervention was followed by earnest debate on moral hazard. Amid the continuing turmoil, however, the issue has hardly been raised for weeks.

For the moment, at least, attention has turned to the policymakers' meetings in Washington.

"There's no doubt that the markets will be much more calm," says Smyth of Riverfront, "if it appears that people are coming together saying, 'let's put our differences aside and think about what's the solution that will get us all out of this'."