profitability of the financial sector at a time of historically low risk premia. in the years preceding the crisis, the profitability of banks and other financial institutions significantly improved as a result of generally favourable economic and financial conditions. at the same time, it was pointed out that the improvement in profitability had taken place against a background of : ( 1 ) unusually subdued volatility in financial markets, ( 2 ) credit risk premia at historically low levels, ( 3 ) very high valuations of asset prices, and ( 4 ) relatively light regulation and supervision in some countries. moreover, the improvement in the financial positions of banks had taken place in an environment characterised by ample market liquidity across a number of global financial markets, which led to almost no liquidity risk premia being priced in. as the crisis is still unfolding, we cannot tell with certainly how our economic and financial systems will function in the future. however, we can safely predict that many of the elements of the old paradigm will no longer be valid. this will give rise to an economic and financial “ new normal ” in the post - crisis period. some of the its main elements, that can be sketched out based on previous experiences of systemic banking crises, are as follows : reinhart, c. m. and k. s. rogoff ( 2008 ), “ the aftermath of financial crises ”, nber wp 14656. bis central bankers ’ speeches somewhat higher macroeconomic volatility and lower potential growth protracted periods of adjustment in housing markets and in the construction sector more rigorous scrutiny of valuation of property as collateral for credit, also using making use of independent valuation sources an upward shift in the pricing of credit and liquidity risk stricter regulation in order to strengthen the resilience of the financial sector, though probably at the cost of making financial intermediation somewhat more expensive evolving role of central banks ( stronger inclination towards “ leaning against the wind ” policies and the assignment of macroprudential objectives ) changes in the macroeconomic environment, regulatory and supervisory framework as well as industry structure may have very significant implications in the way the financial sector operates in the future. let me briefly elaborate on some of those implications. iii. the banking sector after the crisis an important consequence of the financial crisis is the significant transformation which is taking place in the eu banking sector. the global overhaul of banking regulation and supervision resulting from the crisis, the demanding macroeconomic environment and the ongoing deleveraging and banking

to previous tightening cycles that took place within policy frameworks in which the banking system operated with a structural liquidity deficit. while the ecb balance sheet is shrinking, the de facto operational framework for monetary policy is still underpinned by ample liquidity whereby the deposit facility rate determines money market conditions. [ 20 ] the movement of the dfr into positive territory may induce a “ cold potato ” effect, in that banks are incentivised to hold on to funds as the dfr is now positive, contrasting with the period of negative interest rates. [ 21 ] at the same time, the significant decline in excess liquidity as a result of the contraction in the ecb balance sheet may lead to greater heterogeneity in money market conditions, especially since the distribution of the excess liquidity is uneven across banks. in turn, this means that the responses to rate hikes are likely to be increasingly heterogeneous across euro area banks and across member countries, with associated implications for the overall impact of monetary policy tightening on the aggregate euro area economy. third, the strength of the banking channel of monetary policy plausibly differs across supply - driven and demand - driven inflationary episodes. the fading of a temporary demand shock is associated with lower incomes and output, amplifying the transmission of monetary policy through the banking channel. in contrast, the fading out of temporary supply shocks boosts incomes and supply capacity. currently, this is the case for the reversal of the surge in energy prices, the easing of supply chain bottlenecks, as well as the post - pandemic re - normalisation of sectoral supply and demand conditions. in one direction, the unwinding of a temporary supply shock puts downward pressure on inflation, reducing the scale of monetary tightening that is required to return inflation to the medium - term target in a timely manner. [ 23 ] in the other direction, the recovery in incomes attenuates some of the transmission mechanisms via the banking sector, which should also be taken into account in the calibration of monetary policy. we can turn to asking which factors can affect the effectiveness of our monetary policy, through these various channels. in general, all else equal, there has been a substantial reduction in financial tail risks on account of the improvements in the balance sheets of firms and households that were generated by pandemic - related fiscal transfers and the excess savings accumulated during pandemic shutdowns. the curtailment of tail risks means that