andrew bailey : capital and lending article by mr andrew bailey, deputy governor of prudential regulation and chief executive officer of the prudential regulation authority at the bank of england, published in the sunday times, 5 may 2013. * * * crises often lead to big changes in public policy. britain ’ s decision in the 1990s to embrace the objective of sustained low inflation and an independent central bank had its roots in the horribly high inflation of the 1970s. now we have a big change in financial regulation rooted in a more recent crisis, the credit crunch of six years ago. since the start of april, the financial policy committee ( fpc ) of the bank of england has had a statutory duty to protect and enhance the stability of the financial system. alongside it at the bank is the new prudential regulation authority ( pra ). its job is to promote the safety and soundness of banks, insurers and large investment firms by focusing on the problems they cause for financial stability. this is a new direction for financial regulation. the crises that lead to such big changes often follow long upswings in economic and financial conditions that are allowed to go to excess. light touch regulation in the run - up to the start of the financial crisis in 2007 supported expansionary growth in the balance sheets of banks – too much borrowing – which was literally too good to be true. our new approach is designed to counter the risk that policy is too accommodating in upswings and too harsh in downturns. two important principles stand out for me : first, that we must carry out financial regulation with an eye on conditions in the real economy, which means promoting stable and sustainable credit creation and growth ; and second, we should always be prepared to look to the risks ahead, and exercise sensible judgment. the financial crisis has taught us in the most painful way of the dangers of waiting too long to take action and then being unable to prevent the worst consequences of delay. the fpc has recommended that british banks make sure their capital level is high enough to withstand future threats. some banks will need to increase their equity capital for a given level of risk in their balance sheets. concerns have been expressed that this change will harm lending to the uk economy. i do not agree with these concerns. equity capital is not money that has to be stashed away for a rainy day and thus put to no good use. it is the shareholders ’ stake in the company. in nonfinancial

that libor behaved quite differently from rates with no credit risk embedded in them, such as risk - free rates. libor is a less - than - ideal rate for most derivatives contracts and secured borrowing because movements in the credit risk component do not reflect well the underlying risks of the actual question asks banks only about transactions of “ reasonable market size ”. this size is not defined and is left to banks ’ judgment. bis central bankers ’ speeches those contracts. however, libor ’ s pervasiveness has become self - reinforcing. firms use libor in contracts, even when it is less than ideal, because they know they can hedge the resulting risk using highly liquid, libor - based interest rate swaps or other derivatives contracts. and those derivatives markets are so liquid because most market participants use libor as the reference rate in their financial contracts. because of the progression of this dynamic over time, and not because of some careful design, libor has spread well beyond its intended uses and become an important pillar of the global financial system – perhaps too important. in recent years, two separate developments have called into question the wisdom of that arrangement. i have already mentioned the first one – the emergence of a pervasive pattern of attempted manipulation of libor dating back many years. this misconduct was designed either to increase the potential profit of the submitting firms or to convey a misleading picture of the relative health of such firms. since 2012, seven financial institutions have settled related charges with the u. s. commodity futures trading commission and the u. s. department of justice, and the cumulative penalties and fines paid in the united states now stand at more than $ 3 billion. 8 global penalties paid related to benchmark misconduct exceed $ 6 billion as investigations into reference rate manipulation continue. although these penalties and fines are themselves substantial, to my mind the longer - term damage to the public ’ s trust represents the greater cost of this misconduct. a second problem is that unsecured interbank borrowing has been in a secular decline that predates the global financial crisis. changes in bank behavior following the crisis exacerbated the decline and further weakened the foundation of libor. the result is a scarcity, or outright absence in longer tenors, of actual transactions that banks can use to estimate their daily submission to libor. ongoing regulatory reforms and the shift away from unsecured funding raise the possibility that unsecured interbank borrowing transactions may become even more infrequent in