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Although there are some encouraging signs a number of securitization markets remain moribund, risk spreads generally remain quite elevated, and pressures in short-term funding markets persist, the chairman of the Federal Reserve, Ben Bernanke said. “At this stage conditions in financial markets are still far from normal”, he warned.
Turning to the liquidity problem in financial markets, he also warned against moral hazard provoked by central banks that provide too quickly for the needed liquidity.
“The problem of moral hazard can perhaps be most effectively addressed by prudential supervision and regulation that ensures that financial institutions manage their liquidity risks effectively in advance of the crisis”, Bernanke said referring to the new Basel II capital accord where supervisors are expected to require that institutions have adequate processes in place to measure and manage risk, importantly including liquidity risk.
The liquidity risk management of financial institutions has to be improved. “In particular, future liquidity planning will have to take into account the possibility of a sudden loss of substantial amounts of secured financing”, he said.