sure it does not happen again ” i would like to start with the first of these two ideas : that regulators should make sure that this type of financial instability never happens again. this idea has motivated much of the reform effort. and it is entirely understandable. good, well - designed regulation can make an important difference. this reflects a number of features of financial intermediation, including the existence of pervasive information asymmetries and the potential for runs if confidence is shaken for any reason. in addition, financial institutions and investors seem too often to underestimate risk in the good times, with sometimes severe consequences for the broader community. this all means that our societies can benefit from a well - designed set of rules and standards to govern how financial intermediation takes place. at the same time, though, we need to be realistic about what can be achieved through the application of rules alone. history provides some salutatory lessons here. as soon as the ink bis central bankers ’ speeches is dry on a set of rules, people start trying to find ways around them, and they generally have some success in doing so. one possible response to this is to write more rules, and this is sometimes the appropriate response. but, as we are discovering ( perhaps rediscovering ), as we write more rules, new tensions emerge and new difficult trade - offs become apparent. i would like to highlight a couple of the difficult trade - offs that are evident at the moment. the first arises from efforts to shift to a system in which a greater share of banks ’ exposures is collateralised. this shift is being encouraged through regulation as well as by financial institutions themselves. it can be seen in the move to secured funding markets, for example, covered bonds. it can also be seen in initiatives to increase the collateralisation of counterparty exposures in otc derivatives markets, including by having more derivatives novated to central counterparties and by introducing margining where novation is not possible. a common high - level objective of these changes is to reduce counterparty risk. few would disagree that this is a sensible objective. after all, if more exposures are collateralised, shouldn ’ t the system be safer? the reality, though, is that there is some uncertainty as to what the end effects of this shift will be. the reasons for this uncertainty are spelt out in a recent report by the committee on the global financial system ( cgfs ) at the bank

banking worked as serenely as i have described so far. but, of course, that would be too good to be true. there are risks, there are tools to deal with these risks, and yet occasionally, there are banking crises. so let me turn to these next. what are the risks from maturity transformation and how can a bank manage them? what if by coincidence, the bank receives a series of withdrawal requests at once. there could be an epidemic in the area of its operations ; may be the bank serves a community that is buying a lot of gold for akshaya tritiya ; or there is a wealth shock to the farming community it serves due to poor monsoon and new deposits do not come in at the expected rate. in such a scenario, when many depositors need to withdraw their monies at once, the bank faces risk from maturity transformation. given the coincident money demand, it is no longer sufficient to simply manage deposit withdrawals with new deposits and repayments on existing loans. what options does the bank have to manage these risks to ensure that it will show the money to its depositors when they need it and thus retain their trust? to this end, let me briefly introduce three concepts : bank liquidity, bank capital, and interbank markets. bank liquidity one simple idea is that a bank need not deploy all of its deposits for extending bank loans. it can save some purely as a reserve or a buffer to meet the unexpected coincidence in deposit withdrawals. the benefit of such bank liquidity is that it is an impeccable defense as long as withdrawals are smaller than the size of the reserve. the cost is that by not being able to extend bank loans on part of its deposits, economic activity is compromised. bank capital another idea is that a bank need not fund its extension of bank loans only with deposits in its liability structure. it can also raise some other forms of non - demandable liabilities. for example, the banker can put his own capital, beyond the savings needs, into the bank. a large bank can also raise public equity by being listed on a stock exchange. this way, the impact of the bank ’ s unexpected deposit withdrawals can be made smaller relative to the overall size of the bank and the loan repayments it receives. such bank capital would be supported through profits that a bank makes, by charging loan rates that exceed deposit rates and net of the costs of its operations. bank capital would then be the first