regard, the assessment criteria concerning credit risks were revised to make clear that they include counterparty risks associated with various financial instruments. before we look to see what the future holds for risk management or supervision, it is essential that bankers and supervisors first make sure that a sound foundation is firmly in place. for supervisors, this foundation is the core principles. current areas of supervisory focus let me now say a few words about weaknesses that came to light during the crisis and which are likely to influence bank supervision in the future. the first of these relates to the need for supervisors to take a broader system - wide approach to regulation and supervision. while strong supervision of individual banking institutions remains essential, supervisors need to devote more resources to understanding interactions among banks as well as between the banking sector and other financial sectors. the basel committee will be exploring the practical ways to implement such a “ macroprudential approach ”. this more comprehensive approach to supervision and regulation will help reduce systemic risk more broadly. it will also enable supervisors to focus their limited resources on those supervisory and regulatory activities that contribute most towards making the domestic banking and regional financial system more resilient to stress. another topic of high interest relates to “ regulatory gaps ”. the crisis has revealed that nondeposit taking institutions could be a major source of systemic risks. the first step for financial sector supervisors is to identify any regulatory gaps in their financial systems. the next is to employ the suitable supervisory response, which may range from traditional prudential tools, such as capital requirements, to enhanced disclosure and transparency. we need to take a fresh look at these issues so that the activity of the unregulated or underregulated players – such as mortgage brokers, mortgage companies, hedge funds or others – are subject to adequate oversight commensurate with their potential to pose systemic risk. this in turn will reduce pressure on the core banking sector and help prevent a lowering of bank standards or practices in good times. the question of whether or to what extent supervision is necessary is a difficult one. to give one example relative to this region, the basel committee has already started to reflect on the supervision of deposit - taking, microfinance institutions. we recognise that some of these institutions may be regulated differently from banks as long as they do not hold, in the aggregate, a significant proportion of deposits in a financial system. but at the same time, these organisations need some form of regulation commensurate to the type and size of their transactions

related to interconnectedness and the perception that some banks are too important to fail. some institutions have grown so vital for financial stability that they have become systemically important and their failure is not a socially acceptable option. during the financial crisis, government authorities had no other choice then to save these institutions. at the same time losses of external capital providers were kept to a minimum. let me explain the concept of systemically important financial institutions, the so called sifis, and discuss the international policy response to address the problems related to “ too important to fail ”. 18. there are roughly three characteristics that make an institution systemically important : its size, interconnectedness and limited substitutability. size measures the volume of financial services provided by a financial institution. interconnectedness increases the extent to which problems at an institution may affect the financial system. this may happen via an institution ’ s direct links with other institutions as well as indirectly, via its role in the financial infrastructure or financial markets. the third factor, limited substitutability, indicates that if crucial functions or services cannot be quickly and easily taken over by another party, the system can become seriously disrupted. 19. aside from these structural characteristics of institutions, two other factors may accelerate the spillover to the entire financial system. first of all, the complexity of the organisation structure. complex and internationally active banks cannot be easily wound up nor can their crucial functions be easily transferred to another party. secondly, in a crisis situation, confidence effects and herding behaviour of market participants play a reinforcing role. fsb framework for sifis these contagion channels made bailouts of systemic institutions during the crisis inevitable. such intervention, however, carries a number of problems, like a burden on fiscal position, creating moral hazard by making government guarantees explicit, and undermining the level playing - field between institutions. therefore, steps have been taken to tackle the tooimportant - to - fail problem. the financial stability board has developed a policy framework to deal with systemically important financial institutions, which the g20 world leaders ratified last month. this framework is designed to reduce the probability and impact of a failure of a sifi. it rests on more intensive supervision, higher buffers for sifis compared to basel iii and an increased resolution capacity of national authorities. the case for macro - prudential oversight 20. on top of these new standards and regulations, enhancing supervision is also vital. macro -