March 2016 BIS Quarterly Review: Uneasy calm gives way to turbulence

Markets have been roiled since the start of the year by concerns about growth in China and other emerging market economies, and about the health of large global banks.

"The tension between the markets' tranquillity and the underlying economic vulnerabilities had to be resolved at some point. In the recent quarter, we may have been witnessing the beginning of its resolution," said Claudio Borio, Head of the Monetary and Economic Department.

The March 2016 issue of the BIS Quarterly Review:

• recounts how financial market turmoil has emerged and spread since the beginning of 2016.
• shows how international financing flows slowed in the second half of 2015, possibly signalling a turning point in global liquidity. Banks' cross-border claims on emerging economies fell in the third quarter, and outstanding international debt securities contracted by $47 billion in Q4, the biggest fall in three years. Emerging market net debt issuance was essentially flat in the second half of the year.
• proposes an alternative perspective on the decline in cross-border bank lending to China, the main driver of the drop in cross-border claims on emerging economies. The analysis finds that the outflows ultimately resulted from lower offshore renminbi deposits and Chinese firms' paydown of foreign currency debt both cross-border and inside China.

"The combination of reduced offshore renminbi deposits and Chinese firms' paydown of foreign currency debt reflects the unwinding of carry trades and explains the downward pressure on China's currency," said Hyun Song Shin, Economic Adviser and Head of Research. "It also shows why the offshore renminbi rate trades at a discount to the onshore rate during periods of stress."

Four special features examine a range of economic, financial and policy issues:

• Morten Bech and Aytek Malkhozov (BIS)* find that modestly negative policy rates have so far been transmitted through to money markets in a similar way to positive rates. But the pass-through to key bank rates has been uneven, and there is great uncertainty about the behaviour of individuals and institutions if rates were to decline further into negative territory or remain negative for a prolonged period.
• Dietrich Domanski, Michela Scatigna and Anna Zabai (BIS)* explore recent trends in household wealth inequality. Their simulation suggests that wealth inequality has risen in the advanced economies at the centre of the Great Financial Crisis. To the extent that it has boosted asset prices, monetary policy may have affected inequality in opposite ways: reducing it through rising house prices, but increasing it through higher equity prices.
• Patrick McGuire and Goetz von Peter (BIS)* study the drivers of the contraction in bank credit during and after the Great Financial Crisis and find that banks which provided locally funded credit to borrowers proved to be the most stable post-crisis.
• Drawing from a recent survey of major trading platforms, Morten Bech, Anamaria Illes, Ulf Lewrick and Andreas Schrimpf (BIS)* review the rising use of electronic and automated trading in fixed income markets. An important recent development has been the increase in electronic trading of corporate bonds, which has more than doubled over the last five years.

* Signed articles reflect the views of the authors and not necessarily those of the BIS.