##chase agreement ( repo ) funding of asset - backed securities were also troublesome for both banks and nonbanks. see gary gorton and andrew metrick ( 2012 ), “ securitized banking and the run on repo, ” journal of financial economics, vol. 104 ( june ), pp. 425 – 51. moreover, state and municipal borrowers had been issuing long - term debt while paying short - term interest rates by using structures such as variable - rate demand notes ( vrdns ), which gave holders the right to put the securities back to liquidity providers on short notice. when the money market fund investors that held vrdns became worried about their ability to get their money out at short notice, the volume of putbacks rose, and these developments ultimately led to increased payment obligations for some municipalities. bis central bankers ’ speeches distress of nonbanks and its influence on the financial system. before the crisis, the authorities had few policy levers to provide liquidity or to resolve failures of nonbanks in a way that would avoid serious spillovers. liquidity was ultimately provided to some nonbank markets, such as the markets for securities backed by consumer and business assets, but the facilities were far from simple and took substantial time to create and implement. 6 finally, nonbank distress can transmit to the banking sector through many channels, such as counterparty relationships, disruptions in funding markets, and knock - on effects of asset fire sales. the failure of lehman provides a good example. it was a nonbank, and its failure both imposed direct losses on its many types of counterparties and disrupted many markets with negative effects on banks. principles for prudential regulation of nonbank intermediaries and activities it is widely understood that any regulation of nonbanks should fit their activities and the vulnerabilities they pose, which implies that not every nonbank financial institution or activity necessarily needs to be regulated. the two key principles for prudential regulation of nonbanks when it is warranted, are simple : first, we should be attentive to solvency and liquidity ; second, we should recognize that the financial system will change over time, and thus close monitoring and analysis of the system are essential. insolvency and illiquidity are classic financial stability concerns. and as mentioned, they were common themes of the distress at nonbanks that we observed during the crisis. thus, we will not go far wrong if we

of assessing risk, we monitor a broad range of economic and financial indicators. included in this group are a number of measures of liquidity and credit creation in the economy. by most standard measures, aggregate liquidity does not appear excessive. the monetary aggregate m2 expanded only 5 - 1 / 4 percent during 2003, somewhat less than nominal gdp, and actually contracted during the fourth quarter. the growth of nonfederal debt, at 7 - 3 / 4 percent, was relatively brisk in 2003. however, a significant portion of that growth was associated with the record turnover of existing homes and the high level of cash - out refinancing, which are not expected to continue at their recent pace. a narrower measure, that of credit held by banks, also grew only moderately in 2003. all told, our accommodative monetary policy stance to date does not seem to have generated excessive volumes of liquidity or credit. that said, as we evaluate the risks to the economy, we also assess developments in financial markets. broad measures of equity prices rose 25 percent in 2003, and technology stocks increased twice as quickly. the rally has extended into this year. and as i noted previously, credit spreads on corporate bonds have narrowed considerably, particularly for speculative - grade issues. this performance of financial markets importantly reflects investors'response to robust earnings growth and the repair of business balance sheets over the past few years. however, history shows that pricing financial assets appropriately in real time can be extremely difficult and that, even in a seemingly benign economic environment, risks remain. the outlook for the federal budget deficit is another critical issue for policymakers in assessing our intermediate - and long - run growth prospects and the risks to those prospects. as you are well aware, after a brief period of unified budget surpluses around the beginning of this decade, the federal budget has reverted to deficits. the unified deficit swelled to $ 375 billion in fiscal 2003 and appears to be widening considerably further in the current fiscal year. in part, these deficits are a result of the economic downturn and the period of slower growth that we recently experienced, as well as the earlier decline in equity prices. the deficits also reflect fiscal actions specifically intended to provide stimulus to the economy, a significant step - up in spending for national security, and a tendency toward diminished restraint on discretionary spending. of course, as economic activity continues to expand, tax revenues should strengthen and the deficit will tend to narrow, all else being equal. but even