References Bank of England 2011: Instruments of macroprudential policy. A discussion paper. BCBS 2010: An assessment of the long-term economic impact of the new regulatory framework. BIS 2010: Assessing the Macroeconomic Impact of the Transition to Stronger Capital and Liquidity Requirements. Final Report by the Macroeconomic Assessment Group established by the Financial Stability Board and the Basel Committee on Banking Supervision. 17  BCBS (2010) and BIS (2010). These estimates suggest that the median impact of increasing capital ratios by 1pp is a 1–2% reduction in lending. 18  BCBS (2010). BIS central bankers’ speeches  7  Blinder, Alan S. and Reis 2005: Understanding the Greenspan Standard. Prepared for the Federal Reserve Bank of Kansas City symposium, The Greenspan Era: Lessons for the Future, Jackson Hole, 25–27 August 2005. CGFS 2010: Macroprudential Instruments and Frameworks: A Stocktaking of Issues and Experiences. Crowe, Christopher et al 2011: Policies for Macrofinancial Stability. Options to Deal with Real Estate Booms. IMF Staff Discussion Note, SDN/11/02. Danthine, Jean-Pierre 2012: Reconciling Price stability and Financial Stability. Speech held at the Alumni Conference, University of Zurich, 24 January 2012. Danthine, Jean-Pierre 2011: After the crisis: improving incentives in the financial sector. Speech held at the Founding event of the School of Finance, University of St. Gallen, 20 May 2011. De Nicolò, Gianni et al 2012: Externalities and Macroprudential Policy. IMF Staff Discussion Note, SDN/12/05. Drehmann, Mathias et al 2011: Anchoring countercyclical capital buffers: the role of credit aggregates. BIS Working Papers No 355. Haldane, Andrew G. 2010: The $ billion question.

Even worse, growth in the euro area has now all but come to a halt, and the currency union is faced with increasing unemployment. 2  Crowe et al (2011). BIS central bankers’ speeches  1  How to deal with systemic risk: The case for macroprudential regulation Let me proceed straight to the key problem at hand: the issue of systemic risk in financial markets. In general terms, systemic risk arises because an optimising financial institution does not fully account for the cost that its behaviour imposes on other financial institutions. That is, at heart, systemic risk originates in a negative externality imposed by individual financial firms on the system. The underlying sources of systemic risk can be either structural or cyclical. The structural dimension of systemic risk is linked to spillovers associated with three key properties of modern banking: high leverage, limited liability and interconnectedness. On its own, high leverage implies a higher risk of insolvency. Combined with limited liability, high leverage often leads to excessive risk-taking. This is because, with limited liability, the diverse set of stakeholders (managers, owners, creditors) benefits from the upside of risk-taking but does not fully bear the cost when these risks materialise. As a consequence, there are strong incentives to leverage the balance sheet beyond the level which would be chosen if the individual stakeholders were fully exposed to the associated increase in the risk of default.