both funding and market liquidity, capturing market - wide events, events affecting multiple markets or currencies simultaneously, and the combination of idiosyncratic and market - wide shocks. in conducting this analysis, firms should better integrate stress tests and contingency funding plans. as with other risk areas, weaker performance in funding and liquidity - risk management can sometimes stem from inadequate information and poor incentives. during recent events, firmwide liquidity - management strategies were most effective when they included proper incentives and all relevant information, including information about the potential for certain exposures to be added to a firm's balance sheet – so - called unplanned asset expansions. successful plans also contained information about the potential liquidity needs of individual business lines and how those might affect funding for the entire organization. in other words, individual business lines were instructed to evaluate their likely needs for funding and relate those needs to the treasury function. in some cases, managers have considered the potential adverse liquidity outcomes from engaging in certain businesses and therefore have decided to limit their involvement or stay out of those activities altogether. concluding thoughts the banking industry has the primary responsibility for fostering a culture of effective risk management, but of course supervisors have their own role to play in ensuring the safety and soundness of individual firms and a viable financial system. therefore, both should continue to work hard to improve risk management in light of recent market events. u. s. supervisors are cooperating with their counterparts in other countries to help the industry address risk - management issues – bilaterally as well as through international forums such as the basel committee on banking supervision and the financial stability forum. i am delighted to represent the federal reserve in both forums. of course, appropriate remedies will not be developed overnight and, when they are developed, may take some time to implement. institutions should make appropriate adjustments to risk management and should do so thoughtfully and carefully. indeed, firms should focus on long - term improvements in their risk - management culture and remember that practicing good risk management is an ongoing process that needs to be continually updated and reviewed for its efficacy. given the challenges in information flows and incentives i highlighted earlier, firms should devote particular attention to these two areas. even an institution that was relatively untouched by recent events should remain vigilant about the next potential source of turbulence, to ensure that it is prepared to analyze information about its risk exposures and distribute that information throughout the firm. going forward, therefore, senior management at financial

, particularly with new products. as i noted in a speech last fall, firms should have greater motivation for applying proper valuation practices as part of good risk management. 1 at the center of these practices is the ability to make appropriate judgments about the quality of information being used for valuations. the process usually starts with an initial experimentation phase in which market participants learn a great deal about the product's expected performance and risk characteristics, preferably under different market conditions. conducting due diligence about new products can be costly and take time, but it is usually worth it. unfortunately, in some recent cases new products were developed very quickly and not properly road tested. in observing the valuation challenges, the " trust but verify " adage has equal application. market participants must ensure that they do not make valuation decisions based solely on excessive reliance on external ratings or evaluations, but that they also undertake their own assessment. and i would suggest that the value of independent due diligence on the part of market participants is especially high for newer and more - complex products. we all know that reductions in market liquidity played a large role in recent events, affecting the valuation of financial products. as with other risk areas, a number of practices were applied over the past nine months to identify and try to quantify the potential for disruptions in market liquidity. good practices included attempts by business lines and trading desks to randall s. kroszner, 2007, " innovation, information, and regulation in financial markets, " speech delivered at the philadelphia fed policy forum, philadelphia, november 30. embed market - liquidity premiums or to apply market - liquidity haircuts in pricing models and valuations. that is, there was an understanding that information in benign periods did not reveal the full set of potential outcomes, and that disruption of market liquidity had the potential to affect market prices by driving down the value of certain instruments and to create losses. conversely, problems arose when some managers did not make marketliquidity adjustments in their quantitative estimates and models and simply relied on recent information from good times, when there was ample liquidity. the basel committee's working group on liquidity began an exercise to review liquiditysupervision practices early last year and just last week issued a public report that builds on the basel sound practices for managing liquidity risk issued in 2000. the report emphasizes that financial institutions should conduct stress tests and contingency planning exercises to prepare for potential problems in