. first, consider the chain of exposures to the credit risk – from the holders of those government securities, to their creditors, and their creditors ’ creditors, and so on. and since many of these exposures are uncharted, the uncertainty about where the exposures lie may cause a spike in perceived counterparty risk, and thereby affect short - term financing decisions. as a result, funding markets become increasingly illiquid, with widening spreads and diminishing access to financing. finally, there is a general retrenchment in risk - taking, which results in a decline in the prices of risky assets – including currencies and commodities. we saw all of these transmission channels in europe in early may. if the situation had deteriorated further, the impact on canada ’ s financial conditions, and on financial conditions more generally, could have been substantial. the market turmoil in europe was met by a forceful policy response. in the affected countries – as happens with most sovereign debt crises – there are two dimensions to the problem : the short - term challenge of rolling over debt, and the medium - term challenge of attaining a sustainable fiscal position. of course, these two challenges are mutually reinforcing : the markets ’ skepticism about the medium - term fiscal position makes it more difficult to roll over debt, while the higher debt - refinancing costs make it more difficult to balance the budget. thus, both problems have to be addressed in a credible manner. the funding problem is currently being addressed with the massive financing packages being provided by the european governments and the international monetary fund. the medium - term fiscal challenge will require hard decisions, painful adjustment, and perseverance. the fiscal austerity that is required in such a situation involves a painful dilemma. such adjustment can impede the economic recovery. on the other hand, as i ’ ve stressed, in countries where sovereign debt concerns have become paramount, failing to adjust will have adverse financial effects – which will also harm the recovery. in theory, this dilemma could be sidestepped by committing to undertake serious adjustment only later, when the economy is stronger ; but promises of future action are rarely enough to convince markets. the solution typically involves taking the bull by the horns : making a bold start with serious structural measures that will have a lasting effect on the fiscal position. the pension reforms that have been undertaken in some european countries are a good example. but there is a problem here for the global economy. for the past several months,

sound foundation. but the time for action has arrived. we cannot afford to be complacent. although canada fared relatively well in the crisis, we are not immune to risk. we must continue to make our own financial system more resilient. together with its partners, the bank of canada works to do just that. the bank will also continue its work in international forums to reduce systemic risk in the global financial system. the issues i discussed – sovereign debt and global imbalances – are important, and they must be resolved effectively, and in a timely fashion. our future well - being is at stake. see “ leaders ’ statement : the pittsburgh summit, ” available at : http : / / www. pittsburghsummit. gov / mediacenter / 129639. htm.