As well as making it easier to resolve the crisis itself, clarity in this respect also affects how banks and other financial institutions develop their operations and also how supervision of them can best be shaped. Instead of thinking in terms of the sequence integration – supervision – crisis management, one should see it in the other direction, that is, crisis management – supervision – integration (Figure 1). My second thesis is that it is unfortunately very rare that this is done in practice. 7  For an example of a theoretical analysis of how consideration for financial stability can be built into a model for inflation targeting, see Woodford, M., “Inflation Targeting and Financial Stability”, forthcoming in Sveriges Riksbank Economic Review. BIS central bankers’ speeches  5  Figure 1 Bank regulation should be based on reverse induction  Timing of events  Logic of incentive analysis  Integration  Supervision  Crisis management  Crisis management  Supervision  Integration  Inadequate planning for crisis management in the monetary union This reasoning can also be applied to nations, not just to their financial systems. During the autumn, we have seen yields on government bonds soar in a number of euro area countries, particularly those with sovereign debt problems. It is quite clear that the euro area lacks the necessary institutions to manage such a crisis situation. In the United Kingdom, on the other hand, yields have not risen in the same way, despite weak public finances there too (Figure 2).

Moreover, raising new private capital in this environment is a very tall order; while the option of public capital injection very costly for shareholders and tax payers. Therefore, it is imperative that banks need to be even more vigilant in managing not only their asset quality but also their internal capital, funding, expenditure including executive pay, and dividend policy. Looking at banks in the Asian region, such as Thailand, despite rapid development of capital market in recent years, the core banking businesses remain traditional; largely deposit taking and loan extension. Meanwhile, treasury operation remains relative small. Moreover, with the financial market predominantly bank-based rather than market-based, there tends to be less risk and complication arising from the originate-to-distribute models of securitisation. Nevertheless, in the past few years, banks have expanded business scope, operating as universal banks or financial conglomerate, with securities and insurance arms. Therefore, organisational structure and risk profile, of even the more traditional banks, have become much more complex. This, in turn, demands that bank’s risk management, Board’s oversight, and supervisory framework can match the increasing complexity and ensure adequacy of capital and risk management system on a consolidated basis. On market risk, some banks in Asia and Pacific countries have been exposed to the subprime related assets such as CDOs as well as assets of failed institutions. The losses so far have been limited to foreign assets and are addressed by private and government assistance. On hindsight, this crisis highlights the fact that it is easy to overestimate one’s risk management ability.