sector have, and they have contributed significantly to the earnings of the banking system, providing it with the ability to absorb losses elsewhere, to maintain loss reserves, and still to show significant profits. those banks with relatively large exposures to the business sector and insufficient offsets from other earning flows were able to avoid stresses because they entered the period with both substantial capital and reserves. these positions reflected not just diligent supervision and the basel i capital reforms but also a marketplace that increasingly demands strength in financial institutions that serve as counterparties in frontier financial risk - management transactions. and bank managers who lived through the late 1980s and early 1990s found capital buffers comforting as well as useful. that banks had impressive earnings and balance sheets going into the current period of stress is of key significance. the strong balance sheets lowered funding costs and provided needed buffers. some banks also benefited from the increased diversification and scale of their operations that had resulted from previous consolidations. the larger banks were better able not only to spread their portfolio risks across a wider range of customers but also to broaden their funding sources. an analysis of the resiliency of the u. s. banking system would be far from complete without a recognition of the new techniques in risk management that have been applied in banking during the past few years. to be sure, at most banks the application of these practices has just begun, and even the most advanced banks still have significant strides to make. nonetheless, the efforts to quantify risk have provided management with a far more disciplined and structured process for evaluating credits, pricing risk, and deciding which credits to retain. in the process, banks are becoming much less dependent on the analysis and subjective judgments of lending officers. although such judgments in the end are indispensable to the lending process, a methodical, systematic, and quantitative review of facts - - including the effects of material new exposures on the lender ’ s consolidated risk - - provides a greater depth to risk management than we have had in decades past. improved risk management and technology have also facilitated, of course, the growth of markets for securitized assets and the emergence of entirely new financial instruments - - such as credit default swaps and collateralized debt obligations. these instruments have been used to disperse risk to those willing, and presumably able, to bear it. indeed, credit decisions as a result are often made contingent on the ability to lay off significant parts of the risk. such dispersal of risk has contributed greatly to the ability

individual countries. transparency alone cannot do the job of good bank regulation, but it is hard to imagine a solution to the international lending problems of the day without more transparent accounting. • the imf. last but not least i discuss the imf. frankly, my own feeling is that if an institution like the imf did not exist, we would want to invent something like it. here is an international institution that, at least in principle, can supervise the finances of different countries without the accusations of big brother that would come about if the united states alone tried to put itself in this role. moreover, it can organize other lending countries to bring support to countries in need of liquidity assistance, as opposed to having the bill fall entirely on the united states. supporting the existence of something like the imf does not suggest agreement with its exact structure or with all of its policies. the present crisis indicates that international preventive medicine provisions are weak. it may be difficult for the imf to perform this warning system role, but there is clearly a need for better warnings about the risks of lending to certain countries, to prevent currency vulnerabilities from building up as much as they did. the imf ’ s “ one size fits all ” recommendations of fiscal austerity should also be re - examined, because in many asian countries expansionary fiscal policies were clearly called for indeed, still are called for - while the imf initially recommended the reverse. but the two biggest criticisms of the imf involve the moral hazard issue and exchange rate flexibility. on moral hazard, the criticism is more or less inevitable. any time there is any governmental attempt to increase safety and soundness, moral hazard questions can be raised. in the case of the imf, if it is there to bail out countries in a liquidity crisis, countries will be more likely to end up in liquidity crises. the answer, it seems to me, is for the imf to attach tight conditions on its lending, so that countries will certainly not look forward to getting into debtor status. in terms of underlying structural change, this is one of the few leverage points the international lending community has on borrowing countries, and it is important for the imf to use its tool well. on exchange rate flexibility, the problem with the critics is that they are not saying the same thing. some say the imf is too quick to let the exchange rate fall, some say it is not quick enough. both cannot be right