distribute model, as implemented in this case, created for the originators. notably, the incentive structures sometimes often tied originator revenue to loan volume, rather than to the quality of the loans being passed up the chain. investors normally have the right to put loans that default quickly back to the originator, which should tend to apply some discipline to the underwriting process. however, in the recent episode, some originators had little capital at stake, reducing their exposure to the risk that the loans would perform poorly. so long as house prices were rising, subprime borrowers saw their home equity increase and were often able to refinance into more - sustainable mortgages. however, when house prices began to fall, borrowers'refinancing options disappeared and the problems with subprime mortgage underwriting were exposed. delinquency rates soared, particularly on subprime mortgages with adjustable rates. because subprime mortgages were frequently securitized, often as part of complex structured credit products, the losses associated with these delinquencies spread throughout the system. although subprime mortgages were the most obvious example, the loosening of credit standards and terms occurred more broadly, reflecting a general boom in credit markets that peaked and then reversed last summer. this boom was characterized by a general erosion of market discipline, underpricing of risk, and insufficient attention by investors to the quality or riskiness of the instruments they purchased. for example, in the market for so - called leveraged loans, used to finance mergers or buyouts, investors showed themselves willing to purchase debt with few covenants or other protections. the pwg also concluded that investors often took insufficient care in evaluating the risks of structured credit products, in part because they over - relied on the evaluations provided by the credit rating agencies. unfortunately, the methodologies and assumptions the agencies used to rate many credit products proved faulty, and their data were inadequate ( in part because of the lack of extensive experience with these products ). when rising delinquencies and losses on mortgages forced the agencies to sharply downgrade many structured credit products, investors lost confidence in those ratings and became unwilling to provide new funds. as financing disappeared, the markets for these products and for related investments, such as asset - backed commercial paper, seized up. another factor that the pwg identified as contributing to the financial turmoil was weakness in the risk - management practices of large global financial institutions that created and held complex

risk - management, but, in addition, a system would be established that can evolve naturally as risk management practices themselves evolve. for the most part, these new quantitative techniques are designed to address risk at lcbos. they involve highly detailed and comprehensive management information systems. such systems are cost effective for lcbos, but they simply do not apply to the vast majority of banks in this country or, for that matter, to smaller and regional banks any place in the world. for this reason we do not intend that the hallmark of basel ii - - the harnessing of internal - ratings - based systems for use in the supervisory process - - be applied in this country to any but the largest and most complex banking organizations. indeed, the internal - ratings - based, or irb, approaches explicitly assume within their risk - weight formulas a high degree of portfolio diversification that very few banks can achieve. as you know, there are two versions of the irb approach : foundation and advanced. the foundation version has a high degree of built - in conservatism, under which rigid supervisory rules would establish many of the credit - risk parameters that would determine bank capital requirements. that is because the foundation approach is designed to address either banks in the early stages of developing their risk - management systems or those operating in a supervisory environment that is not yet prepared to validate and enforce the sound - practice standards applicable to banks under the advanced irb approach. in this country, the foundation version may be useful as a transition for banks that have not yet developed the ability to estimate all of the necessary credit parameters or have not convinced their supervisors that they can both do so and use those parameters in making credit decisions. the foundation version may also be useful for large organizations that have relatively limited business lines. but we would expect - - and we believe the market would as well - - that the lcbos will switch quite rapidly to the advanced version of irb. these entities, by their very nature, will be expected to have implemented the risk - management systems required by the advanced version. if they do not, supervisory pressures and market realities will bring very strong inducements indeed upon such organizations to change their procedures. the standardized approach to basel ii is extremely close to the current basel i and should ultimately involve quite modest changes on the part of most non - lcbo u. s. banks. indeed, it may not even be cost effective to apply the standardized approach in this country, with only modest revisions to the current