1. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Bank of Finland Bulletin 4/2011 Monetary policy and the global economy Governor Erkki Liikanen 19 September 2011 1

2. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Themes  Global economic outlook weakened –Bank of Finland growth forecast for world economy revised downwards –Risks of even weaker developments heightened  New phase in sovereign debt crisis –Countries’ own measures necessary but no longer sufficient  Confidence in financial institutions weakened –Demand for central bank credit increased again  Addressing uncertainty is pivotal 2

3. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Global economic outlook weakened: forecast backround 3

4. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Market expectations of growth weakened 4

5. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Safe haven cosiderations also important Safe haven instrumentsRisky instruments 5

6. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Confidence indicators weakened Manufacturing, spring Consumers, end of summer 6

7. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND New phase in sovereign debt crisis  Previously concerned only individual countries –Greece, Ireland, Portugal  Problems in all major developed economic areas –Annual deficits elsewhere even greater than in the euro area  Confidence weakened broadly during summer –US debt ceiling negotiations –European crisis management systems 7

8. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Phases of the sovereign debt crisis 8

9. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Global economic outlook weakened: Bank of Finland forecast 9

10. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND What are the consequences of the confidence crisis for global economic growth?  Market indicator changes comparable to situation at end of spring 2010, some comparable even to the previous crisis  Uncertainty is already reflected in real economy  The longer uncertainty prevails, the greater the implications 10

11. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Channels for spread of crisis of confidence to real economy  Uncertainty leads to defensive behaviour –More saving, consumption and investment both suffer –Global interdependencies increase the repercussions  Financing more costly and harder to get –Equity finance more costly –Longer-term debt finance also more costly  Investments not made on the basis of bank loans  Market-indicator-based probability of European banking crisis has risen –At worst, rumours become self-fulfilling 11

12. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND GDP in major economic areas 12

13. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Bank of Finland forecast for world economy 13

14. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Risks to the forecast on the downside 14  Forecast assumption: weakening of confidence comes to a halt –Heightened risk aversion fades  If this not possible, the worst scenario: –New global economic recession –Broad-based banking crisis  Factors affecting the severity of downside outcome + Corporate sector and bank balance sheets mainly satisfactory + Central bank liquidity windows are available -Economic policy room for maneuvre limited -Confidence in decision making under strain

15. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Confidence in financial institutions weakened 15

16. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Majority of European banks passed the stress test 5% threshold Source: EBA. 16

17. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND However, banks have medium- and long-term funding falling due 17

18. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Sovereign debt crisis is reflected in the banking sector 18

19. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Spreads between secured and unsecured interest rates in the euro area have increased again 19

20. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Excess deposits become the thermometer of the financial crisis 20

21. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Eurosystem policy rate and money market rates 21

22. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND What if markets demand larger capital buffers for banks? 22

23. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND What if markets demand larger capital buffers for banks? 8% threshold Source: EBA. 23

24. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Summary: How to get out of the crisis? 24

25. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND How to get out of the crisis?  Debt crisis in a new phase –No longer a problem of individual countries –Threat of a new global recession is real  Capitalisation of financial institutions –Confidence in financial institutions weakened –Capitalisation the most effective way to restore confidence –Primarily a task of shareholders  Addressing uncertainty is pivotal –Increased loss of confidence in Europe’s ability to handle the crisis –Concrete measures essential –Implementation of July 21 decisions crucial 25

26. SUOMEN PANKKI | FINLANDS BANK | BANK OF FINLAND Thank you! 26