consider the sustainability of the developments in the banking sector and their compatibility with price stability. after the hard lessons we learned over the last five years, the case for benign neglect of asset booms and only picking up the pieces afterwards is not very attractive. the crisis experience supports rather the idea that financial excesses are better prevented as they happen than only managed after they have caused a recession. one option is leaning against the wind. that would mean taking the price stability objective in a more flexible way and paying more attention to asset prices in monetary policy formulation. but there are difficulties with that : one difficulty is the problem of detecting the credit cycle in time, and correctly timing the monetary policy response. another problem is that price stability might get too little attention. if the price stability objective had to be compromised because of the developments in the banks and in the financial markets, we would actually have a case of financial dominance. how can this be avoided? naturally, it is the quality of commercial bank management and the internal incentives built into the banks ’ management systems that are the first line of defence. but we have also learned that prudent management practices need to be supported by good and effective regulation. this leads to my other main point today. in today ’ s environment, the effective independence of monetary policy requires good regulation which ensures that the banking system as a bis central bankers ’ speeches whole remains stable and solid through the interest rate cycle, not only in times of tight monetary policy but also in times of very accommodative monetary policy. like the fiscal discipline of governments, which protects monetary policy from forms of fiscal dominance, effective banking regulation protects monetary policy from financial dominance. we can see how these prerequisites for independent monetary policy are as important for today ’ s accommodative monetary policy as they were for a disinflationary monetary policy when the concept of independence was developed. * * fortunately, major progress has been achieved in the field of banking regulation, not least in the euro area with the banking union. there are three aspects of the developing banking regulation that i want to mention in this connection. first, the prudential regulation of banks is now stronger and more uniform than before. banks ’ capital ratios have been strengthened a lot since the crisis, and the responsibility for supervision has been centralized at the ecb. this has already made banks more resilient in the face of any future shocks. the new bank recovery and resolution framework is also part of the

financial requirements for effective policy are conditional on our communications and the stability of our institutional position. as stated in the paper, the central banks have considerable loss - absorbing capacity even over and above their book equity and provisions, if only the present value of future seigniorage income is sufficiently high. so it is not only credit and market risks which are of consequence but the income stream as well. in this sense, a prolonged state of ultra - low interest rates might prove to be a challenge to central bank profitability in the long run, and reduce the risk bearing capacity of the central banks. the bank of finland routinely uses the var ( including expected shortfall ) methodology and also stress scenarios to assess the soundness of its financial position, and publicly reports summary statistics from its var calculations. these calculations show that the bank is able bis central bankers ’ speeches to absorb considerable losses with its provisions and reserves without endangering its capital position. which alternative financial structures might be desirable and feasible? the paper pinpoints the asymmetry of profit distribution as a major source of concern for central banks, especially if the volatility of profits ( including capital gains and losses ) is large compared to the average expected profit flow. the bank of finland suffered heavy losses during the finnish banking crisis of the early 1990s. in the ensuing two decades, the bank has been very successful in achieving a sound, well capitalized financial position which now after the international financial crisis is broadly appreciated in the finnish society. there have been both financial and political factors behind the favourable experience. • flexible rules on provisioning. we are able to book above - the - line provisions from unrealized capital gains which can then be used to cover future capital losses. moreover, the law allows us to book above - the - line provisions also for maintaining the real value of equity capital. • sensible rules on profit distribution. the basic scheme according to law is that half of the accounting profit of the bank be transferred to the reserve fund and the other half paid to the state. however, the law also says that exception can be made from this rule if the financial condition of the bank warrants such exception. it is the supervisory council of the bank, composed of parliamentarians, which makes the ultimate decision. after the finnish banking crisis of the early 1990s, it took until 2000 before any profits were transferred to the state. • the governance structure. the bank of finland is institutionally not subordinate to the government, but instead to the parliament