Governments and Central Banks Respond
The adverse developments in both the financial system and the real economy prompted governments and authorities in advanced economies and emerging-market economies to take a series of extraordinary policy actions. This process started towards the end of 2008 and continued well into the first half of 2009.
To avert a complete collapse in financial intermediation, governments and central banks responded with a large and comprehensive set of measures to meet exceptional demand for liquidity and bolster confidence in the financial system. Governments announced large-scale programmes to support the financial sector. Many initiatives involved recapitalisation of banks with public funds, government purchase of or lending against troubled assets, as well as guarantees of bank deposits, debt and interbank loans. Further, to support the real economy, governments put in place substantial fiscal stimulus packages.
In particular, Asian authorities placed emphasis on ensuring that financing for different types of economic activities and business entities continued to be available where appropriate. Where bank-deposit guarantees were put in place in Asia, these were not because of specific risks in the banking system. Rather, they were precautionary in nature and often in response to competitiveness issues arising from the introduction of such guarantees by other jurisdictions.
By the second quarter of 2009, signs that these policy actions were gaining some traction began to emerge. In the US and Europe, solvency concerns over major financial institutions began to recede somewhat following recapitalisations and guarantees provided by national authorities. Liquidity concerns also eased, as central banks stepped up the provision of short-term funding to financial institutions. These preempted further impairment of credit intermediation.
In Asia, capital outflows remained contained. Financial asset prices, notably equity prices, rose in line with global developments (Chart 6). Credit conditions showed
signs of easing (Chart 7), partly due to signs of stabilisation globally and partly due to policy measures taken by Asian authorities to address key risks in both the economy and financial system. Risk aversion eased across a range of financial markets as interbank rates moderated, CDS spreads narrowed, and capital inflows increased, broadly in line with trends in a number of other emerging markets.