Clearly we need to learn what we can from recent history and take steps now to make domestic and international financial systems more resilient. Crises are opportunities for implementing change, and in the US and internationally, significant reforms traditionally have been born of crisis. To effect meaningful and appropriate reform, however, we must fully understand cause and effect and the broader trends of international financial intermediation. Today, I would like to share with you my perspective on these issues based on US and international experience, with special emphasis on the need for additional preventive measures. BIS Review 64/1998  -2-  Importance of sound banking systems Over the long run, a nation must be able to mobilize domestic savings and other sources of funds needed to finance investment and other productive expenditures. This requires the development of an effective banking system that transfers surplus funds of households and businesses to borrowers and investors. Fair and impartial allocation of credit accommodates the economic development that results in improved national living standards. Notwithstanding broad changes in the intermediation process which have reduced the role of banks in favor of the capital markets, banks retain a critical role in direct intermediation and as managers of financial risk. Sound financial institutions, and banks particularly, remain integral to a sound economy. Effective financial intermediation is particularly important in the context of most emerging market countries given the relative scarcity of savings, a relatively underbanked population, and large-scale investment needs.

Fourth, I think we should bear in mind that banking sector crises often are not just short-term aberrations, but usually are manifestations of longer-term structural problems. Therefore, it is crucial that policymakers address not only the immediate stock of problem assets through “bad bank/good bank” vehicles, but also structural problems, or weaknesses in core profitability stemming from high overhead, low margins, and excessive regulatory costs. To the extent that underlying problems are not addressed, the banking sector will remain vulnerable to future instability. Thus, at the same time as authorities seek to battle a crisis, they also may be compelled to undertake a range of longer-term reforms to banking sector infrastructure, most notably in areas of accounting, disclosure, capital, and supervision and regulation. These changes often involve bringing domestic standards in line with international standards, and can involve difficult trade-offs, in that, for example, fuller disclosure of problem loans may undermine depositor confidence. Finally, the scale of banking sector problems in a number of countries has necessitated opening up the sector to significant foreign investment. Clearly, such a course brings political tensions and possible domestic backlash. Notwithstanding these concerns, foreign ownership is both inevitable and positive as foreign capital brings not only additional financial strength to a domestic banking sector, but also frequently needed technology and skills transfer. Overall summary of initiatives What has been the success of responses to recent banking crises?