when the need arises. we must be wary of a subtle fallacy of composition, however. even if each market participant holds a significant reserve of what – in normal times, at least – would be considered highly liquid assets, for the system as a whole the only truly liquid assets are cash and its equivalents. the quantity of cash assets in the system at a point in time is, in turn, essentially fixed, being determined directly or indirectly by the central bank. thus, whenever an investor sells less liquid assets to raise cash, the cash holdings of other market participants are reduced by an equal amount. consequently, in highly stressed financial conditions, when the marketwide demand for liquidity rises sharply, one of two things must happen : either the central bank provides the liquidity demanded by lending against good collateral, or forced sales of illiquid assets will drive the prices of those assets well below their longer - term fundamental values, raising the risk of widespread insolvency and intensifying the crisis. if the crisis becomes sufficiently severe, history suggests that damage to the broader economy is likely to follow. in his classic 1873 treatise, lombard street, walter bagehot famously articulated the need for central banks to be prepared to lend freely against good collateral ( what he called " good banking security " ) but at a penalty rate. 3 a panic, said bagehot, is a " species of neuralgia " and as such must not be starved ( p. 25 ). of course, judgment is required to assess whether a particular set of market conditions is severe enough to warrant extraordinary injections of liquidity by the central bank ; a too - aggressive intervention could unduly reduce the incentives of market participants to insure against more - normal liquidity risks. in the steps it took, the federal reserve strove to reach a middle ground, signaling its willingness and ability to provide liquidity to markets as needed without significantly distorting the incentives of individual banks and other market participants to manage their liquidity prudently. the federal reserve's efforts to provide liquidity appear to have been helpful on the whole. to be sure, the volume of loans to banks made through the discount window, though it increased for a time, has been modest. however, collateral placed by banks at the discount window in anticipation of possible borrowing rose sharply during august and september, suggesting that some banks viewed the discount window as a potentially valuable option. on the other hand, no amount of liquidity provision

are relevant, i would be surprised if they were nearly as important as job insecurity. if heightened job insecurity is the most significant explanation of the break with the past in recent years, then it is important to recognize that, as i indicated in last february ’ s humphrey - hawkins testimony, suppressed wage cost growth as a consequence of job insecurity can be carried only so far. at some point, the tradeoff of subdued wage growth for job security has to come to an end. in other words, the relatively modest wage gains we have experienced are a temporary rather than a lasting phenomenon because there is a limit to the value of additional job security people are willing to acquire in exchange for lesser increases in living standards. even if real wages were to remain permanently on a lower upward track than otherwise as a result of the greater sense of insecurity, the rate of change of wages would revert at some point to a normal relationship with inflation. the unknown is when this transition period will end. indeed, some recent evidence suggests that the labor markets bear especially careful watching for signs that the return to more normal patterns may be in process. the bureau of labor statistics reports that people were somewhat more willing to quit their jobs to seek other employment in january than previously. the possibility that this reflects greater confidence by workers accords with a recent further rise in the percent of households responding to a conference board survey who perceive that job availability is plentiful. of course, the job market has continued to be quite good recently ; employment in january registered robust growth and initial claims for unemployment insurance have been at a relatively low level of late. wages rose faster in 1996 than in 1995 by most measures, perhaps also raising questions about whether the transitional period of unusually slow wage gains may be drawing to a close. to be sure, the pickup in wage gains has not shown through to underlying price inflation. increases in the core cpi, as well as in several broader measures of prices, have stayed subdued or even edged off further in recent months. as best we can judge, faster productivity growth last year meant that rising compensation gains did not cause labor costs per unit of output to increase any more rapidly. non - labor costs, which are roughly a quarter of total consolidated costs of the nonfinancial corporate sector, were little changed in 1996. owing in part to this subdued behavior of unit costs, profits and rates of return on capital have risen to high levels. as a consequence, businesses believe that,