The concept of macroprudential policies is hardly new and can be traced back to as early as the late 1970s, in reference to the macroeconomic and financial stability implications from the rapid pace of lending to developing economies3. Some emerging markets, including Asia, have, since the 1990s, deployed macro-prudential policy instruments to manage imbalances in the financial system and capital flows. Following the recent global financial crisis, greater attention is now being focused on the role, scope, instruments and governance arrangements for macro-prudential policy to preserve financial stability. New or strengthened mandates for macro-prudential policies are being established in a growing number of jurisdictions, supported by wide-ranging changes to the legislative framework and institutional structures. Used effectively in combination with other policy tools, including micro-prudential measures and monetary and fiscal policy tools, macro-prudential policies have been demonstrated to significantly improve financial stability outcomes. Effectively operationalising macro-prudential policy frameworks, however, remains a key challenge. By design, macro-prudential policies are intended to reduce the probability and severity of a future crisis. While further research will deepen our understanding of leading indicators and transmission channels, judgments will continue to have a key role. History has shown that political economic considerations have, at times, had an effect on the willingness of policymakers to act. Despite the high costs of crisis on the financial system on the economy and on the society, there is still an inherent bias towards inaction. This underscores the need for a stronger focus on creating an environment in which policymakers will have the confidence to act.

This has prompted a rethinking of the issues related to the financial business and its models, and wide-ranging regulatory reforms by the international community. Related to these issues is the question on the “appropriate” size of the financial sector. As economies develop, the size of financial sector assets and, correspondingly, the value-added contribution of the financial sector, is expected to increase. However, while there is a fundamental relationship between the growth of the financial sector and the real economy, the relationship is not wellunderstood or captured in current macroeconomic models. This creates a potential challenge for policymakers to determine the point at which growth of the financial sector may be outstripping the demands and the potential of the real economy. This issue has become even more pronounced with greater regional and global financial integration, and in countries that are also international financial centres. To the extent that corporate and personal income growth is driven by financial transactions rather than by an increase in production or  BIS central bankers’ speeches  1  employment growth, economies become potentially more vulnerable to the consequences of financial system stress. The recent global financial crisis provides a distinct example of how excessive leverage and exponential growth in financial activities that are detached from the growth trajectory of the real economy can become a source of instability. Leverage increased sharply in the years leading to the crisis, buoyed by years of strong economic growth. In the advanced economies, bank balance sheets exploded, growing to multiples of annual GDP.