This “procyclical systemic instability” of the system is itself a complex concept which calls for analysis of the interplay between diverse  BIS Review 161/2009  3  phenomena such as: herd behaviour, contagion from common or correlated exposures, counterparty relationships, and undesired procyclical effects of prudential rules, of accounting rules, of behaviour of credit rating agencies, etc. Another important domain in assessing systemic risk is the analysis of the inter-linkages between the financial sector itself, taken as a whole, and the real economy. Financial imbalances often mirror real-economy imbalances. The adverse feedback loop between a fragile system, prone to procyclicality, and the real economy might be devastating, as has been demonstrated by the recent crisis experience. This means that unsound macro-policies over time, including macro imbalances, can themselves trigger financial imbalances, which in turn would aggravate instability and fragility in the real economy. Sources of systemic risk are particularly difficult to assess. By definition, they stem from the interrelations between the various elements in the system and are hence inherently complex. We know that the evolution of systems under stress is particularly difficult to capture. Furthermore, the materialisation of a risk is very often a sharp, abrupt and rapid non-linear phenomenon which calls for non-standard analysis. For example, in a very large and highly complex financial system, the channels through which risks are propagated are very difficult to capture comprehensively. A deep understanding of leverage, correlations and concentrations of exposures is key in this respect.

Jean Claude Trichet: Hearing at the Economic and Monetary Affairs Committee of the European Parliament Introductory speech by Mr Jean Claude Trichet, President of the European Central Bank, at a hearing before the Economic and Monetary Affairs Committee of the European Parliament, Brussels, 7 December 2009. *  *  *  Dear Madam Chair, Dear Members of the Committee on Economic and Monetary Affairs, This is our first meeting since the entry into force of the Lisbon Treaty. The new Treaty is a reason to celebrate: in Europe generally, here at the European Parliament, but also at the ECB. It will make the Union stronger, more effective and more efficient. The powers and responsibilities of the European Parliament increase. The ECB formally becomes an institution of the European Union, and all its essential features, above all its independence, are confirmed. Dans le cadre du nouveau traité, nous nous réjouissons de notre collaboration à venir avec le Parlement. La qualité de cette coopération a été exemplaire à mes yeux au cours de ces dernières années. Unsere heutige Anhörung ist drei wichtigen Themen gewidmet: erstens, unserer Einschätzung der aktuellen wirtschaftlichen Lage; zweitens, unserer Exit-Strategie zum Auslaufen der außergewöhnlichen geldpolitischen Maßnahmen, die wir in dem Höhepunkt der Krise eingeführt hatten; und drittens, dem Thema der systemischen Risiken im Finanzsystem. 1. Economic and monetary developments  The economic situation and outlook have continued to improve since my previous hearing before this Committee ten weeks ago. The euro area economy shows increasing signs of recovery.