The question should thus be rephrased as “How can we identify that the build-up of risk is approaching a critical stage?” International evidence suggests a palette of quantitative early warning indicators that are reliable with respect to predicting banking crises and financial instability. For instance, real estate boom-bust cycles are particularly damaging when associated with increased leverage in both the real and financial sectors. To obtain a more accurate picture of the intensity of systemic risk, a combination of indicators should be monitored simultaneously.13 In this spirit, the Swiss approach relies on a combination of indicators to assess whether, and to what extent, the activation, adjustment or deactivation of the CCB is warranted.14 These indicators have been chosen based on their past performance as early warning indicators both for Switzerland and internationally (slide 6). Still, a purely mechanical response to financial stability risk depicted by a set of indicators, while providing a certain degree of transparency, is risky. For instance, it would leave no room for considering the influence of developments not captured by these indicators. As a consequence, an element of discretion should be embedded in the decision to activate the CCB, or not, at a given point in time.15 The current situation provides a good example: The medium-term risks to financial stability remain high, with imbalances in certain segments persisting. Some recent data releases, however, indicate a possible slowdown in momentum in Swiss mortgage and real estate markets during the second quarter of 2012.

The most important concern in this regard is that, if the CCB generates capital constraints at some banks, these banks will need to decide which sector to keep lending to. It may seem reasonable that institutions will prefer to keep lending to the booming sector, while cutting back on lending to other sectors. The design of the CCB takes such undesired side-effects into account. In particular, the sectoral approach alleviates this problem to some extent. By increasing the cost of granting credit to a given sector (real estate lending) relative to others, it should discourage lending to the former as it is “penalised” in terms of higher capital requirements. And, thanks to its dynamic nature, the CCB can be flexibly adjusted, should it still have undesired consequences in other segments of the credit market. Conclusion To sum up, the global crisis has clearly stressed the need for a more comprehensive approach to financial stability. The potential cost of a systemic crisis is significant. Remaining idle is no alternative. We must insist on addressing systemic risk issues head-on. This is the intent of macroprudential instruments. In Switzerland, financial stability risk is currently building up, driven by persistently strong momentum in the mortgage and real estate markets. Against this background, the availability of a tool such as the CCB is a significant step forward. The CCB is a “soft”, incentive-oriented instrument based on the principle of prudence. It can and will be used in a balanced and flexible way to deal with specific cyclical risks to financial stability.