both directions. moreover, common exposures also mean that the authorities face a significant problem of “ fallacy of composition ”. that is, recommending what might be appropriate for a single market participant could well exacerbate system - wide problems should everyone do the same thing for the same “ good ” reason. how can the insights above be translated into better operational policies? the first point to note is that traditional microprudential standards and codes of good behaviour still need to be strongly encouraged. if individual institutions are well managed, if markets function efficiently and if the infrastructure supporting the financial system is strong, then incidents of financial stress are likely to be less frequent and the associated costs reduced. the attention paid to such issues by the various committees that meet at the bis, 11 the financial stability forum and the bretton woods institutions attests to their importance. see borio and lowe ( 2004 ). on this, see borio ( 2003 ), pp 13 - 14. see altman et al ( 2002 ). also lowe ( 2002 ). the bis has a committee of national experts to deal with each of the constituent elements of the international financial system. the basel committee on banking supervision is concerned with banks ( and the international association of insurance supervisors with insurance companies ). the committee on the global financial system monitors the functioning however, given a macroprudential focus, the nature of the monitoring of the components of the system must change. particular focus must be put on those parts of the system likely to have knock - on effects elsewhere. from this perspective, banks, as suppliers of liquidity to the system, are more important than insurance companies. by the same token, large financial firms should receive more careful monitoring for imprudent behaviour than smaller firms whose failure might be more easily absorbed without systemic implications. indeed, their capital requirements might be calculated differently to reflect such externalities. finally, given the growing importance of markets - for the provision of credit, the transfer of risk, and the management of risk by financial institutions - it is crucial that markets continue to function properly under all circumstances. the implication is that market surveillance must be strengthened under a macroprudential framework. the most important guiding principle for a macroprudential framework would be that policies need to be applied more symmetrically over the cycle - tightened as vigorously in the up phase as we observe easing in the down phase. this has a number of implications for the conduct of prudential policy and for monetary policy

be the winners in a given market. not everyone can win, but those who do not dare, know they will be left behind, and potentially put out of business entirely. such reasoning must have been part of the explanation why so many telecom companies have been willing to bid so extravagantly for broad - band spectrum licences. however, in banking these common risks are further exacerbated by a unique “ exit problem ”. by this i mean that the elimination of excess capacity in banking is harder than in other businesses. there are two reasons for this. first, excess capacity can be less visible. in contrast to other industries, excess supply does not necessarily put immediate downward pressure on prices and profits. in fact, it can contribute to lending booms which tend to sustain economic activity and boost asset prices, thereby improving for a while the financial condition of both borrowers and lenders. as a result, the extent of the underlying imbalance can be masked, until the process necessarily turns into reverse. recent experience points to many such examples, with japan perhaps being the most dramatic though that of the nordic countries in the late 1980s being closer to home. second, excess capacity can be more stubborn. for those very forms of official protection that have historically buttressed the banks ’ competitive advantage in liquidity provision tend to delay exit. they do so by weakening market discipline on the institutions. government ownership or other guarantees can play a similar role. we have seen this in many emerging market economies, but it is by no means uncommon in industrial countries as well. finally, the introduction of cutting edge technology by large firms raises their fixed costs while lowering variable costs, thus increasing the likelihood of firms continuing to compete fiercely right up to the point of bankruptcy. the bottom line is that forces specific to the banking industry tend to generate pressures towards excess capacity quite apart from other innovations. this complicates the required restructuring. indeed, seen through this lens, financial crises can be viewed as a kind of “ safety valve of last resort ”, a catalyst for needed structural adjustments. it would be better, of course, if market participants and policy makers rather acted to ensure that restructuring occurred in a speedy and orderly way without activating such extreme mechanisms. iii. meeting the challenge : a preliminary assessment how well has the restructuring been proceeding in the european financial industry? assessing the progress is not straightforward. for the reasons mentioned above, it is hard to disentangle cyclical from structural factors. balance sheets and profit and