means that m. wolf, " why regulators should intervene in bankers'pay, " financial times, 16 january 2008, 11. both the basel committee on banking supervision and the international organization of securities commissions are working in this area. the bank will continue to watch developments in the real economy for their impact on inflation. developments in the financial sector will be important from a monetary policy perspective only to the extent that they are expected to influence developments in the real economy and, therefore, inflation. i do not mean to downplay the current financial turbulence – it has clearly begun to affect the u. s. economy and, to a lesser extent, ours as well. at the bank of canada, we will continue to monitor these effects, while aiming neither to favour particular market segments nor to insulate market participants from the consequences of their decisions. those consequences will continue to reveal themselves in the weeks and months ahead. this will remain a difficult process. however, the responses that i have just outlined will help the market translate uncertainty into risk, and encourage the appropriate repricing of risk so that markets can ultimately return to more normal functioning. however, this will not mean a full return to the status quo ante. while risk will still be distributed, securitization will be increasingly transparent and standardized, and perhaps eventually exchange traded. first loss will likely remain, to some degree, with the originator. liquidity and balance sheet strength will be more highly valued. volatility will be less restrained by overconfidence. in short, we will see a world in which financial institutions with sound credit judgment, effective risk management, and patient capital can prosper ; a world in which capital is allocated more efficiently ; a world that rewards the traditional attributes of canadian financial institutions. i feel very positive about canada's medium - term prospects in such a world.

, and provision of funding at risk - free rates to trading desks that placed risky bets. all of these factors encouraged excessive risk taking. finally, it appears possible that the incentives provided by a series of regulations may have encouraged crowded trades. the so - called " cliff risk " created by the mandated use of ratings is one example. a paradox of the current turbulence is that a desire to shelter in the perceived safety of aaa - rated assets led to a dangerous explosion in the supply of synthetically created aaa - rated assets. since many of these assets were financed by excessive leverage and many participants were constrained by mandates to sell on downgrades, the rush to the exits has proven extremely destabilizing. next steps for policy - makers before addressing specific responses in detail, i would like to make a couple of general points. the first is that, while the need to restore well - functioning markets is of paramount importance, the official sector can afford to take some time to ensure that the actions they take are appropriate. this is because many of the market practices that contributed to the dislocations have stopped. at present, many financial institutions are, at best, assuming limited access to market - based liquidity and, in the extreme, hoarding liquidity. it is an understatement to say that credit exposure is once again receiving active scrutiny. the for a full discussion, see m. zelmer, " reforming the credit - rating process, " financial system review ( ottawa : bank of canada, december 2007 ) : 51 - 57. data supplied by merrill lynch u. s. see also j. kiff and p. mills, " money for nothing and checks for free : recent developments in u. s. subprime mortgage markets " ( working paper wp / 07 / 188, international monetary fund, 2007 ). demand for complex, opaque securities has dried up. with institutional memory longer than a few months, even in the financial sector, there is no need to rush to judgment or to impose hastily conceived measures. the other point is that market participants have every reason to learn the lessons of these events and to change their behaviour as required. as i will discuss in a moment, there are some encouraging signs in this regard. that said, recent events have revealed serious and widespread shortcomings that, if not addressed promptly, completely, and credibly, will demand a more activist response on the part of regulators. the ultimate response will likely be a combination