Central bankers should never forget that fiat money on which we base our way of life and prosperity, is a social contract, based on the society’s trust that every bill will be honored by the creator of that money, which in most of the cases is the central bank. This trust is one of the important pillars that guaranty not only the economic system but the entire society. In my opinion, even in the short run, the central banks are well equipped to pursue these two goals with the instruments at their disposal: main policy rate on refinancing operation; macroprudential policies on a systemic level; and, careful and diligent micro supervision of commercial banks. Having two goals and at least two instruments should allow for an optimal mix of policies, at least in theory. In practice, as is indicated from our experience, central banks should not shy to lean against the wing in order to discourage or at least contain financial imbalances. Furthermore, every time we face fundamental economic problems with potentially negative systemic implications, we revert to financial stability. I firmly believe that the first and most important job for a central bank is to ensure the integrity of money and the banking system. 2. Joint supervision and crisis response mechanisms  Building bridges of continuous communication with local bank managers, home supervisors and headquarters of the mother institutions has proved to be critical in dealing with the problems before they get out of hand.

One striking consequence of these macro imbalances was the financing of the private spending in rich countries by households in relatively poor emerging economies. To put it another way, excessive reserves accumulated in emerging economies through high current account surpluses flowed back to financial markets of advanced economies, which enabled households in these countries borrow beyond their means. Despite rapid growing domestic demand and acceleration of commodity prices, global inflation remained subdued for a considerable period of time since surplus countries kept their labor cost under control to sustain their competitiveness in global markets. Therefore, price stability oriented central banks in advanced economies saw no reason for a strong monetary tightening and stayed idle as their economies dangerously overheated. Second reason for the global crisis was the unprecedented amount of liquidity created in the global financial system. Innovations in financial engineering and technological advances facilitated the emergence of new and complex financial products, which in turn led to a massive growth in liquidity in advanced economies, well beyond the intention or control of central banks. High leverage ratios in financial institutions also played a significant role, thanks to creative accounting practices and lax regulations. Ample global liquidity coupled with low interest rates and excessive rise in asset prices fueled the rapid growth in the indebtedness of households. As a final element, the institutions responsible for regulation and supervision of financial institutions failed to keep up with the extremely innovative, deep and complex nature of the financial markets.