fuelled, among other developments, by a rise in major inflationary pressures in most economies. in my view, there are three basic factors behind this deterioration of the global economic situation. the first is the adverse behaviour of the us economy, weighted down by the continuing decline in its real estate sector, which is depressing household and investor confidence. until relatively recently, the emerging economies have been considerably more dynamic, partly offsetting the greater slackness in the more industrialised countries such as the united states. however, doubts over the real ability of these economies to continue posting robust growth rates amid the virtual stagnation of the more advanced countries are ever greater. the increase in oil and commodities prices is the second of the basic factors behind recent developments in activity and inflation at the global level, despite the relative easing since the summer. the effects of these price rises have been fully felt in the more advanced economies, while in the emerging economies the pass - through of higher energy costs is proving slower and is still far from complete. but it is the third of these factors that will most likely influence developments in the world economy in the coming quarters. i refer here to the severe worsening of the financial crisis in united states and in much of europe, and to the turmoil on international financial markets. somewhat more than a year back now, when the us subprime mortgage crisis broke, there was great uncertainty over the scope and duration of the episode then beginning. today, there is unfortunately no doubt that we are facing a global financial crisis of enormous proportions. although at first the difficulties appeared to be confined to just a few investment funds and relatively minor us mortgage institutions, the overall number of banks affected has since widened considerably. we have witnessed a process, with no practical solution in sight, involving nationalisations, bankruptcies, bank interventions, the creation of new investor guarantee schemes and considerable curbs on market practices, such as those affecting the short - selling of equities. the list of institutions affected includes most notably : the major investment banks, whose business model has succumbed to the turmoil ; the us government - sponsored mortgage agencies ; one of the biggest worldwide insurers ; and major us credit institutions. in europe, uk, danish and icelandic banks have been involved, as have more recently those from euro area countries such as belgium, the netherlands, luxembourg, france and germany. moreover, several european governments have announced their readiness to guarantee their banks ’ deposits. the foregoing developments pale into insign

and lending growth, and that the impact of higher capital levels on lending may be especially significant during a stress period6. imf analysis indicates that banks with stronger core capital are less likely to reduce certain types of lending when impacted by an adverse funding shock7. and our own analysis indicates that banks with larger capital buffers tend to reduce lending less when faced with an increase in capital requirements. these banks are less likely to cut lending aggressively in response to a shock8. these empirical results are intuitive and accord with our supervisory experience, namely that a weakly capitalised bank is not in a position to expand its lending. higher quality capital and larger capital buffers are critical to bank resilience – delivering a more stable system both through lower sensitivity of lending behaviour to shocks and reducing the probability of failure and with it the risk of dramatic shifts in lending behaviour. the capital adequacy framework has made much needed progress in recent years. the framework is now being designed to be fit for purpose both for the micro - prudential purpose of each firm ’ s safety and soundness, and for the macro - prudential purposes of addressing the risk certain major firms individually present to financial stability and the risk that imbalances building up in the sector as a whole, or part of it, may threaten financial stability. the key elements of the framework are : - first, a common definition of capital resources focussed on genuine loss absorbency in a going concern – common equity tier 1. in doing so, we must define robustly the boundary between going and gone concern loss absorbency ; - second, a framework for capital which comprises minimum capital requirements and capital buffers, with the buffers varying in size depending on a bank ’ s size and the nature of its activity and risk, and varying through the cycle ; - third, using a combination of different approaches to assessing capital adequacy – risk - based approaches, stress tests, and a leverage ratio ; - fourth, within the risk - based approach, striking a balance which recognises the potential benefits of firms ’ internal models while guarding against their weaknesses and the incentive problems they create. a major principle of the new framework is that there is no single “ right ” approach to assessing capital adequacy. the very important role that is now given to stress tests illustrates the point. this year the pra and fpc are running their first concurrent stress tests for the major uk banks, building on the past development by the fsa