##ncing activity that followed the backup in mortgage rates that began in early november. but mortgage rates remain at low levels and should continue to underpin activity in this sector. consumer spending received a considerable lift from the sales of new motor vehicles, which were remarkably strong in october and november owing to major financing incentives. sales have receded somewhat as incentives were scaled back, but they have remained surprisingly resilient. other consumer spending appears to have advanced at a solid pace in recent months. the substantial declines in the prices of natural gas, fuel oil, and gasoline have clearly provided some support to real disposable income and spending. to have a more persistent effect on the ongoing growth of total personal consumption expenditures, energy prices would need to continue declining. futures prices do not suggest that such an outcome is in the offing, though the forecast record of these markets is less than impressive. changes in household financial positions in recent years are probably damping consumer spending, at least to a degree. overall household wealth relative to income has dropped from a peak multiple of about 6. 3 at the end of 1999 to around 5. 3 currently. moreover, the aggregate household debt service burden, defined as the ratio of households'required debt payments to their disposable personal income, rose considerably in recent years, returning last year to its previous cyclical peak of the mid - 1980s. however, neither wealth nor the burden of debt is distributed evenly across households. hence, the spending effects of changes in these influences also will not be evenly distributed. for example, increased debt burdens appear disproportionately attributable to higher - income households. calculations by staff at the federal reserve suggest that the ratio of household liabilities to annual income for the top fifth of all households ranked by income, who accounted for 44 percent of total after - tax household income last year, rose from about 1. 10 at the end of 1998 to 1. 20 at the end of the third quarter of 2001. the increase for the lower four - fifths was only about half as large. although high - income households should not experience much strain in meeting their obligations, others might. indeed, repayment difficulties have already increased, particularly in the subprime markets for consumer loans and mortgages. delinquency rates may well worsen as a delayed result of the strains on household finances over the past two years. large erosions, however, do not seem likely, and the overall levels of

to go beyond simple compliance with minimum standards and perform for themselves a comprehensive assessment of whether they have sufficient capital to support their risks. in addition, supervisors should be in a position to provide constructive feedback to bank management on these internal assessments, or " economic capital ", based on their knowledge of industry practices at a range of institutions. finally, pillar iii seeks to complement these activities with market discipline by requiring banks publicly to disclose key measures related to their risk and capital positions. the concept of these three mutually reinforcing pillars has been key to the basel ii effort. pillar i : minimum regulatory capital requirements the minimum capital requirements for credit risk under the a - irb approach are built around the same concepts that underlie all modern portfolio - based methods for systematically measuring credit risk. the first, and perhaps most important, input to this approach is an estimate of the likelihood or probability that a borrower will default. second, lenders need a sense of the size of the loss in the event of a default because they are often able to recover something from a defaulted borrower's assets or from collateral or a guarantee. third, the lender, who often has an undrawn credit line or loan commitment to a borrower, needs to estimate what the amount borrowed is likely to be at the time a default occurs. these key inputs - probability of default ( pd ), loss given default ( lgd ), and exposure at default ( ead ) - are the building blocks of the a - irb approach to estimating capital requirements. many banks are currently working to improve their ability to estimate these quantities, using a wide variety of techniques from expert judgment methodologies to quantitative statistical models. a - irb permits banks to use any or all of these, requiring only that the procedure for estimating these three key parameters be based on empirical information, that it be rigorous, that it be reproducible by third parties, that the process be subject to strong internal controls, and that the results be shown to measure risk accurately. the supervisor must, in fact, validate the estimation procedures and the controls that support them before a bank can use a - irb. as part of the validation process, a bank must demonstrate that these risk measures are in fact used in credit - granting decisions, as well as for other management purposes such as reserving and pricing. the intention is for the supervisor and the manager to focus on the same issues. these estimated risk variables are inputs to regulatory