, the fed and other regulators can also improve market functioning by clarifying property rights of various kinds - for example, by making rules about the use of personal information collected in the course of financial relationships. of course, to achieve its social objectives as efficiently as possible, a regulator needs to gather as much information as it can from market participants. the fed never imposes a substantive regulation without extensive consultation with those who will be affected - in this case, both financial institutions and consumers - through formal comment periods, policy advisory groups, and a variety of more - informal contacts. bank supervision and regulation, also a major responsibility of the fed, provides another example of how conceptual frameworks developed by researchers inform the policy process. many economists ( myself included ) have studied the special features of the banking industry, documenting its important role in the economy but also noting the potential instability of institutions that finance long - term, illiquid investments with short - term, liquid deposits. deposit insurance and other government protections reduce the risk of banking instability but create the potential for moral hazard and other problems. the challenge for bank supervisors is to ensure the safety and soundness of banking institutions - that is, to minimize moral hazard and to protect the deposit insurance fund - without inhibiting economically valuable activities or technological innovation by banks. designing regulations to accomplish these objectives has become markedly more difficult as banking organizations have become larger and more complex. the new basel ii international capital accord, which the fed helped to design in collaboration with other banking regulators from the united states and around the globe, may well be the most economically sophisticated regulation scheme ever devised. 1 the new system is designed to use information provided by the banks themselves about their loss experience, together with algorithms that mimic the most up - to - date risk - management techniques, to establish minimum capital standards for banks that approximate the appropriate level of economic capital. in addition, basel ii provides for enhanced supervisory oversight and public disclosure of financial information by banks. as many economists have noted, greater transparency on the part of financial institutions improves the efficiency with which financial markets price financial claims on banks, including equity and subordinated debt. by aggregating private - sector information about banks ’ financial condition, prices and yields determined in financial markets may in turn provide important information to regulators. difficult challenges lie ahead in implementing the new capital accord, and i do not want to enter into a full discussion of the many issues raised by basel ii today. my point here is only that basel ii is not your grandfather

mr greenspan gives a testimony on over - the - counter derivatives testimony of mr alan greenspan, chairman of the board of governors of the us federal reserve system, before the committee on agriculture, nutrition and forestry, united states senate, on 10 february 2000. * * * i am pleased to be here today to underscore the importance of this committee ’ s efforts to modernize the commodity exchange act ( cea ) and to express my support for the recommendations for amending the act that were contained in the report by the president ’ s working group on financial markets entitled over - the - counter derivatives markets and the commodity exchange act. the need for legislation over - the - counter ( otc ) derivatives have come to play an exceptionally important role in our financial system and in our economy. these instruments allow users to unbundle risks and allocate them to the investors most willing and able to assume them. a growing number of financial and non - financial institutions have embraced derivatives as an integral part of their risk capital allocation and profit maximization. in particular, the profitability of derivative products has been a major factor in the significant gain in the finance industry ’ s share of american corporate output during the past decade - a reflection of their value to non - financial industry. indeed, this value added from derivatives itself derives from their ability to enhance the process of wealth creation throughout our economy. in light of the importance of otc derivatives, it is essential that we address the legal uncertainties created by the possibility that courts could construe otc derivatives to be futures contracts subject to the cea. the legal uncertainties create risks to counterparties in otc contracts and, indeed, to our financial system that simply are unacceptable. they have also impeded initiatives to centralize the trading and clearing of otc contracts, developments that have the potential to increase efficiency and reduce risks in otc transactions. as i shall discuss more fully later in my remarks, rapid changes in communications technology portend that time is running out for us to modernize our regulation of financial markets before we lose them and the associated profits and employment opportunities to foreign jurisdictions that impose no such impediments. to be sure, the congress and the commodity futures trading commission ( cftc ) have taken steps to address these concerns about the cea. the futures trading practices act of 1992 gave the cftc authority to exempt otc derivatives from most provisions of the act. in early - 1993 the cftc used that