Faltering market confidence has led to capital flight from countries on the ‘periphery' to the core of the euro area. This has meant higher borrowing costs and a growing wedge between the economic and financial ‘haves' and ‘have-nots'.
European policymakers have taken a number of important steps in recent months to help reverse the fragmentation of euro area financial markets and strengthen the European Monetary Union, the IMF said in its latest Global Financial Stability Report.
The most recent action, in September, was the announcement by the European Central Bank to buy government bonds on a conditional basis.
These actions have helped markets stabilize in recent months. However, policymakers need to take additional measures to restore confidence. If they do not, the result will be an acceleration in deleveraging, which raises the risk of a credit crunch as banks make fewer loans, and an ensuing economic recession, the IMF said.
"Further policy efforts are needed to gain lasting stability," said José Viñals, Financial Counsellor and head of the IMF's Monetary and Capital Markets Department, which produced the report.
The IMF said delays in resolving the crisis have likely increased the amount of asset deleveraging by banks, which may further constrain the supply of bank credit and reinforce financial and economic fragmentation in the euro area.