in demand for their products and services. turning now to the household sector, chart 4 shows that a combination of the fall in interest rates, paying down of debt and debt write - offs has substantially lowered the share of income required for households to service their debt. however, as shown in chart 5, the average homeowner still is substantially more leveraged than before the crisis and has lower net worth. one significant problem is the trajectory of home prices. homeowners have lost more than $ 6, 000 billion in home equity since the housing market turned. for homeowners with mortgage debt, about one - quarter of these homeowners have mortgage debt that exceeds the value of their homes. the loss of home equity is a serious problem in itself of course, but it has been exacerbated by the fact that many households have found it very difficult to refinance to take advantage of lower mortgage rates. without a substantial improvement in the ability to refinance, the outlook for real estate prices, and in income prospects, it seems likely that many of the households that ended up with too much debt after house prices fell 30 percent from their peak may need to deleverage further. this implies that for the household balance to fall and provide an impetus to growth, those households with low debts will have to spend more of their income. in many ways these households are in a similar situation to large corporations : their balance sheets contain substantial liquid assets. they are undertaking precautionary saving as a response to greater uncertainty about the economic outlook and their long - term prospects. in more normal times, lowering short - term interest rates would induce households and businesses to spend more or invest more in less liquid long - term assets as the real return on their liquid short - term assets fell. the increase in expenditures produced by this change then would lead to increased employment and income growth, higher assets values and a virtuous, reinforcing circle. however, with short - term interest rates close to zero already and problems in the housing market, this standard rebalancing channel is not working as well as we would like. this discussion, i hope, has underscored two important truths. first, while deleveraging had to take place following the excesses of the boom period, both the extent of deleveraging on the part of those with high debts, and the degree of precautionary savings by those with low defined here as credit market debt to net worth.

market conditions signaling a loss of confidence in prior credit judgments, perhaps in response to the growing awareness of how capital markets instruments, especially derivatives, can transform the risk profile of customers and counterparties? second, are growing capital market activities involving credit risk, such as equity and corporate debt underwriting, foreign exchange and credit derivatives, and securitization creating new liquidity stresses, in particular, greater liquidity risk for financial institutions and their customers, when credit quality declines? third, to what extent are markets signaling greater uncertainty about the nature and level of risks in the world economy given the tremendous structural change in the world financial system and the world economy over the last two decades? fourth, what do recent market developments tell us about the capacity of financial firms to define and manage risk, or to fully understand their own risk profile? the question of what current market conditions may be signaling about confidence in prior credit judgments is especially important for supervisors. for example, do supervisors need to revise what they expect banks to know about their customers, their business strategies and the business purpose of their transactions? in the run - up to the recent market problems, we have seen customers make use of innovations in financial products and strategies developed since the mid1980s to a much greater extent than before. for example, banks, corporations and governments in the emerging markets world are far more involved in foreign currency funding, derivatives markets and use of the international capital markets for debt issuance than before. new groups of institutional customers, such as hedge funds, are devoted almost exclusively to developing and executing strategies based on innovative financial instruments and techniques. the basic financial analysis that is the foundation of the credit process may be affected by changes in both customer and counterparty behavior. for example, a lesson we have learned from the current turmoil is how complex the concept of leverage is in today ’ s markets, where leverage roughly describes the ratio of risk to capital. where leverage once could be measured directly from the balance sheet, we ’ ve become aware that leverage can be achieved in a number of ways. these include holding a high - risk portfolio of assets, engaging in extensive derivatives trading, especially if it involves options, funding domestic currency assets with foreign currency liabilities, investing in long - term assets with short - dated funding and pursuing a high - risk business strategy. all of these effectively can create leverage. a related lesson learned is that collateral can mitigate credit risk, but it cannot eliminate it. one reason is that posted collateral inevitably