of the issues that i've just mentioned are problems related to information. indeed, one of the key lessons of the past seven months is how information asymmetries can lead to, or exacerbate, disruptions in financial markets. so let me now turn to a discussion of these recent events, and look at how problems with information contributed to the market turbulence. market dislocations and the role of information to truly understand these events, it's important to have some context. you can find a detailed account of recent events in the december issue of the fsr. the turbulence in financial markets came about against a backdrop of remarkable strength in the global economy. we had seen continuing robust demand for canadian goods and services that led to a significant improvement in our terms of trade, helping to support the canadian dollar. despite this positive backdrop, there were signs of potential trouble in the global economy. as early as 2003, the bank had flagged concerns about global imbalances. 3 the high level of global desired savings relative to desired investment naturally served to drive down real longer - term interest rates, even as central banks around the world were in the process of raising short - term policy rates. with the decline in longer - term interest rates, investors stepped up their demand for riskier assets that would deliver greater returns. this search for yield led to a narrowing of spreads between the yields on risky assets and government bonds. this narrowing of risky spreads became so pronounced and so persistent that many central banks began to question whether they adequately reflected the credit risks that were involved. in fact, the bank of canada highlighted this precise concern as far back as our june 2004 issue of the fsr. 4 a repricing of risk appeared necessary, but the real question was how, and in what manner, it would take place. besides the need for a repricing of risk, other factors have contributed to the market turbulence that began this summer. originators of loans – both bank and non - bank institutions – were increasingly opting to securitize the loans they made in the form of highly structured asset - backed securities, some of which embedded very significant leverage. these were often sold in tranches that provided varying degrees of protection from the default risk involved. such structures allowed higher - risk assets to appear to take on the qualities of lower - risk assets. the increased use of leveraged structured products was pioneered in major financial centres such as new york and london, although eventually,

non - bank institutions began to market these products elsewhere, including here in canada. the ease with which these highly structured products were sold fuelled the demand for the creation of higher - risk assets, including u. s. subprime - mortgage loans. this, in turn, contributed to the global decline in lending standards. at times, the originators of these loans had fewer incentives to carefully assess the creditworthiness of borrowers. this is because the originators were sometimes distributing all of the loans they had made. in these circumstances, once the loans had been securitized and sold, the originator no longer faced the consequence if the borrower defaulted. i'll return to this point a bit later. but for now, suffice it to say that the decline in standards for loan origination, combined with financial engineering, was helping to spur greater lending. david dodge, " past adjustments and future trends in the canadian economy, " ( bank of canada, 2003 ). bank of canada : " financial system review " ( june 2004 ), p. 4. the process of securitization is not new. securities backed by mortgages, credit card receivables, or other types of assets, have been around for years. indeed, the development of a market for " plain vanilla " asset - backed securities was important since it allowed for the expansion of credit through the market. initially, this market developed in a reasonably transparent way, in that the nature of, and risks associated with, the underlying assets were clear. here in canada, for example, an investor could know with certainty that the mortgages backing securities met the lending standards set by canada mortgage and housing corporation, or that the loans backing a security were of high enough credit quality that a bank or a retailer was prepared to stake its reputation on the securities. these plain - vanilla asset - backed securities continue to exist and remain an important source of high - quality market - based financing. but more recently, we have seen the emergence of increasingly complex structured products, which were developed in response to the demand for higher returns. and as these securities have become more complex and opaque, in many cases, it has become harder to assemble and understand all the information needed to determine what kinds of assets are backing the security, the quality of those assets, and the counterparty risk involved. a final point here has to do with how these complex securities are valued. trading of these securities in secondary markets is rare.