, such as housing and automobiles, showed remarkable strength. indeed, in the fourth quarter of last year we saw annualized gdp growth of almost 3 per cent, when most analysts were expecting the canadian economy to shrink. however, as we recovered from the 2001 slowdown and from 11 september, the u. s. economy was hit by a fourth shock - loss of confidence in the integrity of financial reporting and analysis as a result of enron, worldcom, and other accounting and corporate governance scandals. unfortunately, the uncertainty caused by these problems in the united states has spilled over into other financial markets, including ours. this has created additional caution for businesses and appears to have delayed the expected recovery in investment worldwide. in spite of these four economic shocks, canada ’ s economic performance has been, in comparison with other countries, rather good. clearly, this has been a difficult year for the mining and forestry industries in british columbia, for grains and oilseeds producers in the prairies, and for the telecom industry across the country. but overall, our economy has consistently exceeded the average growth rates of the g - 7 countries since 1997. and both the imf and the oecd predict that canada will post the strongest growth rate of the g - 7 in both 2002 and 2003. i want to emphasize that canada ’ s recent strong performance isn ’ t just good luck. it is the result of having a solid policy framework, both in terms of inflation and fiscal control. the benefits of this framework are well understood, not just by the government and the bank of canada, but by canadians in general. we stuck to that framework during the recent economic turmoil, and we are now seeing a clear payback for the tremendous investment that canadians made in opening this country to free trade, and in getting our macroeconomic framework right in the 1990s. that framework holds and will continue to serve us well. if anyone still needs convincing of that, canada ’ s recent economic performance provides compelling evidence. canada ’ s economic prospects canada ’ s economic growth so far this year has exceeded expectations. real gdp jumped by 6. 2 per cent at annual rates in the first quarter of 2002 and rose by 4. 3 per cent in the second quarter. the bank of canada believes that keeping inflation low, stable, and predictable is the best contribution monetary policy can make to strong and sustained growth in canada. we run monetary policy in a symmetrical way. that is to say, we pay equal attention to persistent pressures that could move

for similar reasons, margins on derivatives transactions and haircuts on collateral increased. these stresses in the shadow banking system amplified the stresses on the financial system more generally and transmitted them globally. another underlying issue that surfaced was the misalignment of incentives. here, a striking example is the case of mortgage - backed securities, structured products and the “ originate to distribute ” model. since investors could not readily assess the quality of the assets backing “ wrong - way ” risk refers to the risk that the value of collateral is more likely to decline under the same circumstances in which a counterparty is more likely to default. ( in other words, collateral turns out to be insufficient precisely when it is needed most ). bis central bankers ’ speeches these securities, there was an incentive for originators to use, and over - issue, lower - quality assets, knowing that they would earn the origination fees, while the investors would bear the risk. moreover, the complexity of some structured products obscured high levels of leverage, which exacerbated losses when the underlying asset values declined. 3 the linkages between traditional banks and shadow banks meant that vulnerabilities spread. for example, when asset - backed securities came under pressure, the sponsoring banks faced significant drains through the credit and liquidity lines they had provided. in some cases, they ended up standing behind the asset - backed securities they had sponsored, largely to maintain their reputations, despite having no legal obligation to do so. at the same time, since shadow banking had become an important source of funding for the banks themselves, stresses in shadow banking had an impact on the banks : for example, when repo markets seized up, banks faced severe funding pressures. how to fix it? the experience of the crisis points to a need for reforms that will enable shadow banking to continue to play a useful role while addressing its inherent risks. the purpose here is not to stamp out all risk, but to ensure that risks are appropriately understood and managed. a related purpose is to prevent an increase in shadow banking activity driven solely by regulatory arbitrage in response to the tightening of regulations faced by banks. the financial stability board ( fsb ) has mapped out international work on shadow banking, identifying five work streams : links between banks and shadow banking ; money market funds ; other shadow banking organizations ; securitization ; and securities lending and repos. the fsb has also begun monitoring the evolution of the sector and the associated risks. to guide the key