Christian Noyer: International financial stability Speech by Mr Christian Noyer, Governor of the Bank of France and Chairman of the Board of Directors of the Bank for International Settlements, at the Lloyd’s City Dinner, London, 29 September 2010. *  *  *  Although the financial crisis originated in one country, it quickly became apparent that it was truly global in nature, both in terms of its mechanisms and its consequences. It brought home a simple message: capital markets are closely interlinked around the world and, thus, domestic and international financial stability cannot be dissociated. Today, I would like to reflect upon international financial stability: what it means, whether or not it should be pursued as a major policy objective; and finally, what actions should be taken and which instruments should be employed. The views expressed are my own and do not represent an official position. However, as you know, next year France will hold the Presidency of the G20 and, bearing this in mind, I will try and offer my own thoughts. International financial stability: what does it mean? Over the last decades increased financial integration has led to greater reallocation of savings across countries. The expansion of gross and net capital flows has been spectacular. As a result current account imbalances have increased both in amplitude and durability. In fact, they have become a permanent feature of our economic environment. Many analysts would argue that these imbalances are the ultimate cause of the crisis. I would not go that far.

Moreover, the supply of these assets is asymmetrically distributed between regions, with the US providing a large chunk of the total. Hence, there is a structural excess demand for dollar‐denominated securities, which sustains permanent capital inflows from emerging economies into the United States. This approach has deep implications. It shows why, for more than a decade now, capital has been continuously flowing “uphill”, i.e. from poor to rich countries, with current account surpluses in emerging economies reflected in growing deficits in the United States. It also helps to explain why asymmetries in financial development between countries generate both payment imbalances and asset bubbles. To the extent that the US financial system did not generate enough “pure” safe assets, this created an incentive for the financial sector to manufacture such assets through the securitization of lower quality loans, but at the cost of greatly increased (if hidden) financial fragility. This fragility became apparent when the whole architecture of securitization collapsed under the weight of excessive leverage and maturity transformation. The point here is that internal and external financial stability are two sides of the same coin. Domestic financial imperfections, on the one hand and distortions in international capital flows, on the other, interact with each other to create and amplify imbalances. Ultimately, financial instability is a product of this through this interaction. International financial linkages therefore can be a source of increased fragility for many national economies, including the largest ones. International financial stability: does it matter? International financial instability manifests itself through various channels.