side - effects of the revised capital framework. the issue of procyclicality, in particular, has attracted much attention. although i think that most arguments have been overstated and i have a more positive view of the macroeconomic implications of basel ii, i also think that this is a legitimate concern and i take this opportunity to gratefully acknowledge the interest and effort made by researchers and commentators to shed light on this and other issues relating to the macroeconomic implications of basel ii. to be sure, all this is also relevant for my topic here today, as monetary policy works precisely through its influence on economic activity at business cycle frequencies. some commentators have warned that the new framework, by tying minimum capital holdings more closely to debtors ’ creditworthiness, may exacerbate the cyclical pattern in credit aggregates, thus altering the bank - based monetary transmission mechanism, perhaps in an unwanted direction. in this respect, a potentially worrisome picture would be one in which the economy falls into a recession, credit ratings deteriorate, capital requirements become more demanding under pillar 1, and monetary policy loses some of its stabilising effectiveness, as banks find it difficult or too expensive to secure funds to expand credit. my impression, however, is that this simple story must be qualified on several grounds, as there are a number of effects working in opposite directions as well as some mitigating factors. but before going into more technical details, let me mention the important steps towards mitigating excessive swings in regulatory capital included in the framework. banks that use the internal rating systems are required to consider longer - term horizons in assigning ratings, and to estimate risk parameters as long - run averages or to reflect downturns. finally, they are also required to carry out stress tests under conditions of simulated recessions. following on from this last point, as banks are required to perform a meaningfully conservative credit risk stress test, they will hold capital buffers that make regulatory capital requirements less of a constraint. pillar 2 will also enhance this precautionary behaviour. at present, actual capital held by most banks is, in general, well above minimum regulatory requirements and there is some empirical evidence of a negative relationship between the capital buffers and the cycle, although the magnitude of this effect is more disputed. by promoting sounder practices for risk assessment, basel ii creates incentives for more forwardlooking capital management through which banks will fully recognise the benefits of a prudent strategy of

now that any further tapering by the fed will likely be done in an incremental manner. this is, however, not to say that short - term volatilities are no longer with us. the challenges going forward for policymakers are, therefore, not only to have the right set of policy responses in place to deal with these short - term volatilities, but also to make sure that all the market participants are well prepared for the scenarios that could be expected. 5. besides dealing with short - term volatilities, another related challenge that has come with the reality of qe tapering is maintaining strong economic outlook. specifically, recent data seem to suggest that signs of economic softness that are reflected in, for instance, deteriorations in the current account performance and weak public finances, are likely to amplify the probability of abrupt flow reversals. that is, the remaining pool of funds seems to differentiate between their investment destinations based more on fundamentals, as is exemplified in the recent episodes of substantial outflows in some of the “ fragile five ” countries. bis central bankers ’ speeches 6. when looked at from this fundamentals perspective, thailand ’ s recent economic slowdown and political setback definitely come to mind as another growing concern. particularly, manufacturing production and private spending have already shown signs of moderation in the midst of political uncertainty and poor economic outlook. this, combined with the likely additional delay in public spending, could have further dampening effects on growth. moreover, should the current political situation persist, prolonged political instability will certainly have dire consequences firstly on the tourism industry but also eventually on our ability to maintain and attract the fdi flows. the country ’ s higher credit default swap, if left unchecked, could lead to higher funding costs in the financial markets and certainly constitutes another challenge going forward. i do hope, however, that political uncertainty will be a short - term factor and that political stability will be achieved again once agreements are reached among the different groups in the society. 7. in the meantime, the bank of thailand has been keeping a close eye on the economy as well as any sign of excessive turbulence in the financial markets, and stands ready to take appropriate actions as warranted. in response to the weakening economic conditions, the mpc has cut the policy rate by 25 basis points at its november meeting to shore up sentiments and mitigate downside risks. the rate was further maintained in the last mpc meeting to retain the