##licability may also vary with changes in the market. the bottom line for today ’ s banking institutions, particularly the largest and most complex ones, is that they must continue to monitor very carefully the embedded risks of their products and services, pay close attention to subtle changes in business practices that could affect the risks related to a given product, and fully understand how the risks in all their business lines intersect and combine to affect the risk profile of the consolidated entity. current perspective on risk - management challenges commercial real estate now that i have described in fairly broad terms the types of risk - management challenges institutions may encounter, i think it would be helpful to provide some concrete examples. as you are likely aware, the u. s. banking agencies recently issued for public comment supervisory guidance on commercial real estate ( cre ), which focused particularly on cre concentrations. regardless of its size, we believe an institution involved in cre lending would benefit from a review of the guidance. as you know, cre played a central role in the banking problems of the late 1980s and early 1990s and has historically been a highly volatile asset class. over the past dozen years, cre concentrations have been rising and are now at record levels at many banking organizations. for certain groups of banks - such as those between $ 1 billion and $ 10 billion - - average cre concentrations, which can include owner - occupied cre, are today above 300 percent. this compares to a previous peak of cre concentrations of 200 percent seen in the late 1980s and early 1990s. the agencies ’ cre concentration guidance, which excludes owner - occupied cre, is intended to reinforce existing risk - management guidelines on cre, and it offers institutions some suggestions for improving their risk - management practices. the agencies share a concern that some institutions ’ riskmanagement practices are not keeping up with the growth in their cre exposures. the guidance describes the key risk - management elements for an institution ’ s cre lending, because banks, in order to attract new business and sustain loan volume, may be inclined to occasionally make some compromises and concessions to borrowers. as supervisors, we want to ensure that loan - to - value standards and debt - service - coverage ratios are meeting the organization ’ s policies - - and that there is not an increasing number of exceptions to those standards and ratios. we also continue to monitor whether lenders routinely adjust covenants, lengthen maturities, or reduce collateral requirements. additionally, the guidance re

bureau of labor statistics has produced since 2000. using this measure lowers the prescribed funds rate by about 2 percentage points during 2003, bringing the rule prescriptions much closer to the actual path of policy. the reason for the improvement is evident from figure 2a, on the other side of the handout : even though the headline and core cpi measures were broadly similar in the mid - to late 1990s, these measures diverged substantially between 2003 and 2005. potential output the second limitation relates to the challenge of judging the level of potential output in real time. to illustrate this point, figure 2b plots three measures of the output gap. the solid line is the real - time estimate by the congressional budget office ( cbo ) that was used in the taylor rule prescriptions in figure 1b, while the dashed line depicts the cbo's ex post estimate of the output gap as of the third quarter of 2007. back in 2003, the cbo estimated that output at that time was below potential by only 1 percent. with the benefit of four more years of data, the cbo currently estimates that the output gap for the first half of 2003 was considerably wider – about 3 percent. in addition, the dotted line represents an alternative measure of resource utilization derived from the unemployment rate and an estimate of the natural rate of unemployment ( nairu ) taken from the board staff's frb / us model. in fact, the unemployment rate was rising through the middle of 2003, so the fomc had every reason to believe that the output gap was widening at that time. using this unemploymentbased measure rather than the real - time cbo measure would reduce the prescriptions of simple policy rules by roughly 1 / 2 percentage point in early 2003. other variables the third limitation in my list was that the small set of economic measures included in simple rules may not fully reflect the state of the economy. around 2003, financial market conditions may not have been adequately summarized by the assumed 2 percent equilibrium federal funds rate. accounting scandals caused economic agents to lose confidence in published financial statements and in bond ratings. the result was higher uncertainty about the financial health of firms, and credit spreads widened substantially. figure 2c shows that risk spreads on corporate bonds were elevated in this period. other things equal, such spreads would reduce the federal funds rate needed to achieve full employment, perhaps explaining a portion of the gap between the actual federal funds rate and the outcome from the policy rule during this period. risk management the last item on my list