mr. mcdonough describes the role of the frbny in the events leading up to private - sector recapitalization of long - term capital management testimony by the president of the federal reserve bank of new york, mr. william j. mcdonough, before the committee on banking and financial services of the us house of representatives on 1 / 10 / 98. good morning mr. chairman and members of the committee. i am pleased to appear before you today to describe the federal reserve bank of new york ’ s role in the events leading up to the recent private - sector recapitalization of long - term capital management and its fund, long - term capital portfolio. i will cover four points. first, i will provide some background on long - term capital ’ s financial problems. second, i will explain our judgment that an abrupt and disorderly close - out of long - term capital ’ s positions would have posed unacceptable risks to the american economy. third, i will explain the limited role we played in facilitating the privatesector resolution to this private - sector problem. fourth, i will identify some of the issues that should concern us as we begin to understand the lessons of this experience. background long - term capital is an investment partnership that was started in 1994. it has many of the characteristics of a “ hedge fund ” in that it borrows money to leverage its capital and is only available to wealthy investors. the strategy of long - term capital was to use complex mathematical formulas to identify temporary price discrepancies between different interest rates. for example, the firm might notice that the yield on corporate bonds relative to treasury yields was higher than the range observed in recent years. if long - term capital believed the former relationship would reassert itself, it would buy corporate bonds and sell short treasury bonds. if the spread narrowed as expected, the firm would profit. if, however, the spread continued to widen, the firm would incur losses. this basic strategy and many complex variations was followed across many interest rate products in the us and many overseas markets as well. the firm was active both in traditional securities markets, and perhaps more importantly, in derivative product markets such as futures, swaps, and options. anticipating that some positions would move in their favor and some would move against them, the firm relied on diversification across a large number of product and geographic markets. long - term capital proved quite successful at this strategy, generating returns in excess of 40 percent in 1995

area is adopting a collaborative approach to implementing vbi which will be key to mobilising change. for vbi to work, the desired collaboration has to bring in not just our market players, but also other non - financial stakeholders, to pool critical skills and infrastructure that reside beyond our terrain. by expanding our network, we will be better able to deliver far greater values that otherwise could not be achieved if we were to depend on limited capabilities within the financial industry alone. with stronger collaboration, i believe there will be much more that each individual can learn from one another. in this context, the community of practitioners comprising committed islamic banks, will be instrumental in pioneering advancements in vbi. the community of practitioners will serve as the nucleus for other collaborative efforts. networks to be formed will comprise a diverse group, from ventures and corporates to knowledge and advocacy institutions. through the exchange of knowledge and experiences, as well as coordinated actions to address implementation issues, the community of practitioners can help accelerate the execution and amplify the benefits of vbi. i would also like to thank the panel members that will take part in the panel discussion today, which also includes representatives from the community of practitioners. we can certainly gain greater insights from the panel members who will elaborate further on the vbi approach and provide interesting perspectives on its implementation. in conclusion, while the malaysian islamic financial sector has made great strides since its inception over 30 years ago, the next growth frontier in islamic finance is in realising its potential to create greater socio - economic impact. instilling values in the financial sector strengthens trust of the people which benefits the public at large. the vbi initiative is envisaged to shape proactive behaviour amongst industry players. for the islamic finance industry, the move towards embracing vbi is another hallmark in our journey to manifest the larger aspiration of islamic finance. islamic banks, with its natural affinity towards social justice are well - positioned to lead this agenda and become the prominent and leading agent of positive change. however, the momentum of vbi is only sustainable through collective endeavours that prompt a shift in our paradigm and change in our actions. it is only with our strong commitment that we can translate the vbi vision into reality. 3 / 4 bis central bankers'speeches 4 / 4 bis central bankers'speeches