In particular, there is unease that the current approach to crisis management that has evolved out of the experiences in Mexico and Asia, notwithstanding its successes in some cases, entails solutions that: •  are potentially too costly, given the repeated reliance on large-scale financial support packages,  •  introduce adverse incentives, or moral hazard, and  •  are in themselves a source of uncertainty, and potentially of instability. 4  BIS Review 35/2001  But the alternatives look even more unpalatable in their implications. Notwithstanding considerable efforts at the public and private level to search for a better way, no magic bullet or formula has been found. Nor is one likely to be available. Experience and a reading of the historical record suggest that the seductive allure of grand solutions must be resisted. Cases differ greatly with respect to what is possible and desirable in terms of their implications for the interests of the public and private sectors. Moreover, if history is any guide, new developments in markets and practices quickly will render obsolete those measures that might seem well attuned to today’s circumstances. Then what is the right path? The solution is neither a single piece of financial engineering nor a compact between the official lenders and private creditors. Rather, it is a process incorporating a number of elements. Essentially, I would suggest that our current case-by-case approach to crisis management needs to evolve in ways that are market-based and adaptive, yet strategic, creative, and principled. Allow me to explain.

When supervisors engage in a more active dialogue about those processes, we expect that banks will apply greater resources to identify and analyze more comprehensively the risks that they face, seek more accurate measures of the potential costs of those risks to their businesses, and develop more sophisticated mechanisms to mitigate those risks, including maintaining sufficient capital funds. I must emphasize that the supervisory review of capital is intended neither to replace the judgement and expertise of bank management nor to shift responsibility for capital adequacy to supervisors. On the contrary, the Committee recognizes that bank managers are in the best position to understand and react to the particular risks that their institutions face. Supervisory review seeks to evaluate the quality of management’s judgement. As an added benefit, better dialogue through supervisory review will strengthen supervisors’ understanding of the risks that banks face. When problems do occur, having greater insight into the risk profiles and the control mechanisms in place will help supervisors to understand which institutions are most exposed and enable more rapid corrective action to protect systemic financial stability. Market discipline The third pillar of the new capital adequacy framework, market discipline, is an important ally of official supervision and can create powerful incentives for banks to manage their risks appropriately. Marketplace participants, including investors, creditors, and other financial counterparties, can reward sound management or penalize weak management through their influence on the value of a bank’s equity and debt and on its access to credit.