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Regulatory reforms, in particular more capital and new liquidity buffers for banks, have made the financial system more resilient. Nonetheless, regulation typically cannot keep up with the pace of financial innovation. What is to be done?
First, bank regulation is absolutely necessary, and it is a key pillar of robust financial stability architecture. Nevertheless, it is not sufficient. Supervision is needed that is proactive and systemic.
Second, prudential measures – including macro-prudential tools – are extremely useful, but there are often circumstances in which these will not be enough. The help of other policies is needed. In particular, monetary policy that can help to “fill in the cracks” is needed. This could serve as a complement to macro-prudential measures by helping authorities to lean against the boom phase of the financial cycle.
And third, the monitoring of bank lending is also not enough by itself. At present there is a new development that bears close watching. I refer to the growth of external financing in Asia in the form of bonds issued in foreign currencies.
But of course, our work is far from done. As financial systems and their interlinkages grow more complex, there is much we still need to understand, not least some of the new risks related to offshore debt finance that I have just discussed.
Nonetheless I am confident that we can continue to improve our approach, not least by learning from each other’s experience and applying these lessons to reduce the risk of financial instability. If there is anything that the turbulence of the past five years has taught us, it is that these efforts will be worthwhile.