financial system more stable without cutting into sustainable growth. but the constant evolution of the financial system and the emergence of new instruments and players also imply that the regulatory framework will never be finalised once and for all. 4. unresolved questions prudent regulation and supervision crucially depend on a sound understanding of the financial system. research efforts of institutions around the globe, including central banks which also have a keen interest in these issues, have been remarkable. however, a deeper understanding is still required of those trends in financial markets that led to financial instability – and monetary policy measures that sometimes took central banks to the limits of their mandate. i do not want to offer a research agenda, but let me pick out some areas that are particularly interesting for central banks : securitisation, for example, is not a new technique, but it has experienced an enormous upswing in recent decades. it is intended to disperse credit risk to those who are better able to assume such risks and absorb the corresponding losses, and as such it increases welfare. we know by now that securitisation can also increase risk - taking and thus the fragility of the financial system as a whole. some elements of regulatory reform already address this problem. but the question remains whether we have done enough to reduce the drawbacks without sacrificing the benefits. another important reason for financial instability with potentially serious macroeconomic costs continues to be overextension in balance sheets in boom periods, which is often an indication of excessive risk - taking. we have learned that this can be masked by a vigorous economy. it is therefore vital that we extend our knowledge of how to make disguised risks more transparent. turning from the prevention of exaggerations to more direct countermeasures, we still do not know enough about the desirability of different forms of policy interventions. the search for the optimal mix of measures of ex - post and ex - ante interventions is still ongoing. further work needs to be done in order to establish whether macro - prudential regulation can solve the time consistency problems associated with ex - post interventions. this is a particularly relevant issue for central banks. since the crisis began, functions have been added, especially in the field of macro - prudential policy. as you are well aware, the bundesbank, too, stands ready and looks forward to assuming more responsibilities in this field. the challenge will then be to integrate these new tasks seamlessly with the functions central banks already perform.

i said that even if our economy was suffering from a deluge of foreign exchange via foreign direct investment inflows, most of the foreign exchange operations were confined to the spot market. i added that i wanted to encourage the development of a vibrant currency futures and forward market. i took the view that such a development would help in creating an active foreign exchange market and introduce newer instruments for exporters and entrepreneurs to hedge and trade in the financial services sector. forward transactions accounted for less than one - fifth of total reported foreign exchange transactions during the last two financial years. of this, options comprised only a tiny fraction. this was the prevailing situation despite the fact that, the bank had authorised one bank to engage in cross - currency options in major currency pairs with corporates as far back as 2003. clearly, some more robust action was called for if we were to dampen the volatility arising from over - reliance on a fairly thin forex spot market with too few players. i have underscored on various occasions the importance of an efficient financial system to sustain our growth as a small export - oriented economy, situated far from its main markets, and forced by globalization and trade liberalization to compete without the protection of the preferential trading arrangements which we relied on earlier to pay our way. it is a truism to say that the financial system can be efficient only in so far as it has efficient financial markets to support it. let me borrow the image of a four - legged table from randall dodd, director of the financial policy forum and derivatives study centre, in washington dc, to illustrate this notion. his four - legged table is made up of ( i ) securities markets, which issue and trade bonds and equity shares, ( ii ) banks which issue loans and provide payment and settlement services, ( iii ) insurance and pension funds which provide future income and collateral for lending, and ( iv ) derivatives markets, which facilitate risk management and price discovery. dodd concludes : “ all four legs serve to support the table, and it is no more stable than its weakest leg. ” indeed! no wonder our table proved rather wobbly : one leg has been missing all along! measures such as the elimination of centralised controls over prices and resource distribution, trade liberalization, freeing nominal interest rates and abolishing exchange controls, fundamentally alter the economic and financial risk exposures of financial institutions and companies. they generate a demand for effective risk management products that cover both liquidity and price risk.