Risks to global financial stability have increased and financial markets have been volatile as European policymakers grapple with the ongoing crisis, the International Monetary Fund (IMF) said in its latest assessment of the global financial sector.

The Fund notes that failing to deal with the current issues could end up forcing Eurozone banks into an asset shrinkage of anywhere from $2.8tn to $4.5tn by the end of next year.

Already, the IMF recognises that faltering market confidence has resulted in a capital flight from peripheral Eurozone countries to the core.

"Unless additional, decisive policy measures are taken urgently", the latest report says that "mounting pressure on banks in Europe could result in asset shrinkage by as much as $2.8tn to $4.5tn through the end of 2013, with the largest burden of credit supply contraction falling on the euro area periphery."

As was the case yesterday in its "World Economic Outlook" during which it cut global growth forecasts, the IMF does point out that the European sovereign debt crisis is not the only risk to financial stability.

"Both Japan and the United States face significant fiscal challenges, which, if unaddressed, can have negative financial stability implications," according to the IMF. The Fund believes that both countries require medium-term deficit reduction plans that protect growth and reassure financial markets.

JM

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