These innovations effectively removed principal counterparty risk from the transactions equation. This infrastructural revolution largely went unnoticed at the time and risks going unnoticed now. Its effects can be seen by counter-factually asking what might have happened during the present crisis without it. With counterparty risk preserved, banks would have delayed payments or transactions for fear of extending uncollateralized credit to institutions of unknown credit quality. Payment systems may have suffered the same seizures felt by  3  Miller, M and Modigliani, F (1958), “The Cost of Capital, Corporation Finance and the Theory of Investment”, American Economic Review 48 (3). 4  BIS Review 85/2009  money markets during the crisis. There would have been an irreparable blockage in the plumbing. In the event, activity in most financial markets has remained strong, allowing risk to be traded and relocated. Robust payments infrastructure played a key, if largely silent, role in this positive outcome. Though neither visible nor audible, this underscores the importance of systemic oversight, and redesign, of payment and settlement infrastructures by central banks. Lesson 6: But some plumbing was missing The infrastructure of financial markets extends well beyond payment and settlement systems – for example, into the area of trading and clearing systems. Here, crisis events suggest scope for improvement. A number of markets have seized during the past 18 months, including at various times the foreign exchange swap market, the corporate bond market, structured credit markets, various derivative markets such as CDS and, perhaps most strikingly, the money market.

Elsewhere, the new framework for the prevention and correction of domestic and external macroeconomic imbalances has also been designed. This so-called Excessive Imbalance Procedure uses an early-warning mechanism based on a broad set of indicators which, together with timely economic analysis, should help detect sufficiently in advance those situations of vulnerability that may endanger financial stability in the euro area and give form to the measures needed to correct them. Progress in designing a permanent crisis-management mechanism has been considerable but clearly insufficient. First, temporarily, the European Financial Stability Facility was introduced, and later, now on a permanent basis, the European Stability Mechanism was set up, which it is assumed should start operating next July. The complexities involved in the design of these devices are evident, since they must combine strength and flexibility to provide financial assistance to ailing countries, while ensuring that incentives are maintained to pursue the ambitious fiscal consolidation and structural reform programmes needed for laying the foundations for sustained growth in the medium term. 4  BIS central bankers’ speeches  But exiting the crisis will not be possible unless a stronger European governance framework is accompanied by a far-reaching revision of national economic policies, enabling them to be fully adapted to the conditions under which a monetary union can operate. It is imperative that the authorities and economic agents should fully assume the consequences derived from sharing a single monetary policy. The soundness of public finances and the flexibility of economic structures are vital requirements in this framework.