the risk of erosion of asset quality. the report included a detailed analysis of the quality of the banks ’ loan portfolios. although the conclusion was that the banks were well prepared to face rising defaults and loan losses at that time, particular attention was drawn to the fact that the previous year had seen increases in the ratio of large exposures to capital and in the proportion of holding companies among borrowers. the report emphasised that there was good reason to scrutinise this development closely. the central bank had actually noted this in earlier publications as well. for the near term, the banks ’ most critical task was to guarantee access to foreign credit and reduce their borrowing requirement. furthermore, confidence among investors and depositors was of vital importance. it was deemed unlikely that conditions in the international markets would improve to any dramatic extent in the near future, and when they did, investors would undoubtedly demonstrate more caution and conservatism than they had previously. in addition to this, the report shed light on the banks ’ very large re - financing needs in the next few years : they would need to re - finance 35 billion euros in foreign bonds through 2012, including 17 billion in 2009 and 2010. some critics have maintained that, in the may 2008 issue of financial stability, the central bank contradicted its own knowledge of the state of the banks – or even that it did not know any better. this is untrue. the report examined in a transparent manner the financial system ’ s weaknesses, as well as its strengths. the developments in the global arena since the spring of 2008 rendered the risks mentioned in financial stability far more serious than was foreseen. in its monetary policy statement in july 2008, the board of governors said inter alia that “ iceland ’ s commercial banks play an important role in maintaining confidence in the financial system. under the current global financial market conditions, they must protect their liquidity and capital position, seek all possible ways to reduce their need for foreign credit, and adapt the scope of their operations to dramatically changed circumstances. ” throughout 2008, the central bank of iceland focused increasing attention on the developments and operational outlook at the nation ’ s financial institutions – particularly its large banks. among other things, it monitored their liquidity much more closely and frequently than is stipulated in the bank ’ s rules on liquidity requirements, and considerably more than had been customary. the central bank met with leaders from the large commercial banks and reviewed various aspects of their operations, requesting information

have a very rapid response time, as its instruments can be applied at short notice. this means that monetary policy can have the last move and can consider the decisions made in other policy areas. furthermore, experience shows that monetary policy is most effective in the long run if central banks are independent in applying monetary policy instruments but have clear objectives decided by elected representatives and are then accountable for their decisions after the fact. the framework for the interactions among the various components of economic policy must not limit this independence. this does not change the fact that, for these interactions to have maximum effectiveness, there must be a clear understanding of which factors will determine the decisions of each party. and the greater the consensus on the analysis of the situation and outlook, the more effective it will all be. one way to promote this is to establish a forum for discussion and exchange of information without restricting each party ’ s legally defined role. in this context, i bis central bankers ’ speeches welcome the forthcoming establishment of a macroeconomic council with representation from the government, the labour market, and the central bank. it has also been decided that the monetary policy committee and the systemic risk committee, which prepares analysis and recommendations for the financial stability council, will hold a joint meeting at least once a year. the first such meeting took place last november. honoured guests : the financial system plays an important role in the functioning of modern society, in channelling diversified saving towards a profitable but larger investment, assessing and diversifying risk, and intermediating payments between parties in the economy. it would be difficult to engage in modern external trade if we did not have some sort of domestic banking system that worked with foreign banks and could transmit payments across borders. the financial system is therefore an inalienable part of value creation in a modern society. its importance is often forgotten in the heat of negative discourse but is never as clear as when things go wrong – as they did in the financial crisis. the structure and condition of the financial system at any given time is determined by historical factors, economic and market conditions, the regulatory environment, technology, and culture and ethics. the central bank and the regulatory environment are also part of the financial system. the public sector can affect developments in the financial system through the regulatory framework, through transactions with the system – not least through the central bank – and by affecting culture and ethics. at present, the system is shaped by the financial crisis and the responses to it, including the capital controls. it is a relatively homogeneous system