detailed orchestration of the us and imf authorities, a deal was struck whereby us $ 24 billion of bank - to - bank debt was rolled over, at an attractive interest rate for creditors. this deal changed sentiment towards korea dramatically, and it would be hard for any creditor to claim that the outcome was anything except greatly beneficial to them. but the case for bailing - in the private sector goes beyond this, at least in cases where the official sector ( often through the imf ) has taken part in something analogous to a “ lender - of - last - resort ”, in which additional funds are made available to shore - up creditor confidence. the rationale for such a facility goes beyond the normal bankruptcy arrangements, to the further argument that where the problem is one of liquidity rather than insolvency, a lender - of - last - resort will avoid “ runs ” on debtors. given that it is taxpayers ’ money ( usually via the imf ) which is being put at risk to bail - out privatesector creditors, taxpayers are entitled to expect some contribution from the creditors. the relevant lessons come from mexico in 1994 / 95. prior to the crisis, investors had received higher returns for the risk they were running. when confidence evaporated and creditors refused to roll - over their loans at the end of 1994, default loomed. the imf and the us government acted as lender - of - last - resort, repaying all creditors in full and without delay. this was, in almost all aspects, extremely successful. the “ run ” was contained, and mexico experienced a “ v - shaped ” recovery. but it did highlight the moral hazard that goes with bail - outs – it left the impression that lenders would be protected when things went wrong ( see dooley ( 1997 ) ). the contrast to this is bailing - in the private sector – enforcing a stand - fast and “ hair - cut ”. this not only addresses the source of the immediate problem, but it is also equitable, and directly addresses the moral hazard problem. in making this case, australia has argued that such arrangements should focus exclusively on sovereign or quasi - sovereign debt, in particular the bank - to - bank flows : the bulk of the capital reversal in asia was taking place between banks, who were using their access to government guarantees in order to finance the capital outflow. this makes an important distinction between those who can easily “ take the money and run

important. comparable with the balance sheet channel, the bank lending channel emphasises that monetary policy can influence aggregate demand not only through interest rates, but also through its impact on the supply of bank loans. whereas the balance sheet channel focuses on the availability and value of collateral necessary for borrowing operations, the bank lending channel refers to changes in the banks ’ and borrowers ’ funding possibilities. usually, two reasons are put forward why the balance sheet channel has weakened of late. banks have become more flexible because of the growing use of securitisation and improvements in risk management. consequently, banks can respond more flexibly to changes in financial market conditions and will therefore not pass through each and every change in the central bank ’ s official short - term interest rate. hence, other things being equal, the effect of monetary policy on the overall loan supply has decreased. moreover, financial development has not only broadened banks ’ options in terms of responding to interest rate changes ; it has also broadened borrowers ’ financing opportunities, reducing their dependency on bank loans. to put all the arguments in a nutshell, monetary policy seems, on balance, to have gained influence on financial market prices and the real economy in the short run. this is confirmed by the existing theoretical and empirical literature, which, by the way, delves much more deeply into the intricacies of the various transmission channels than i am able to do today. in any case, it should be borne in mind that the evidence is still tentative. as financial development is an ongoing phenomenon, it should therefore be considered valid only at the current juncture. nonetheless, the bottom line is that, in the face of greater competition among financial intermediaries, financial innovation and financial globalisation, monetary policy remains a powerful tool for delivering price stability. in this context, however, it is of the essence that the monetary policy strategy utilises a broad - based approach in order to guarantee a robust assessment of the developments in the economy and on financial markets. financial stability 3. 1 financial stability analysis let me now turn to financial stability. a widely accepted definition of financial stability is the ability of the financial system to perform its key functions efficiently, namely, the allocation of capital and risks and the settlement of payments and securities transactions. these functions must be fulfilled smoothly not only in normal times, but also during periods of structural adjustment and stress. for obvious reasons, supporting financial stability is an important objective for central banks – and has always been so. first