BIS Review 39/2004  1  It is something of a paradox that the decline of the dollar has been concentrated against the currences of the least dynamic economies whose current accounts are relatively balanced, while it has held very stable against the currencies of the highest-growth countries which account for most of the US trade deficit. In any event, the contribution exchange-rate movements may be expected to make in correcting global external imbalances is limited; what are needed are economic policy adjustments by the main countries. Not only was no headway made in 2003 in this area, but economic policies remained oriented, in certain cases, in the opposite direction to what was needed to reduce the imbalances, especially as regards the US budget deficit. As mentioned, the international economic outlook has improved appreciably in 2003 and early 2004. In turn, the recovery will foreseeably take hold in those countries most ahead in the cycle, while those most behind are expected gradually to join the upturn. Nonetheless, certain risks remain and should be borne in mind when assessing the future course of the recovery. An initial risk is that the persistence of current-account imbalances may exacerbate volatility on international foreign exchange and financial markets. Achieving a distribution of world growth more in line with more balanced current-account positions without jeopardising the recovery is, therefore, one of the main challenges facing the world economy.
It is all about getting the banking system into a position where it can demonstrate robust capital and liquidity buffers, and to do so by facing up to the discipline of the market rather than the support of the authorities. The Edinburgh fund managers are an important part of that market discipline. In a market economy, you are in the front line of defence and discipline. Now, I cannot say that the UK is insulated from the risks we observe in other parts of Europe. As our most recent Financial Stability Report, published just before Christmas, made clear, “the United Kingdom is only partially insulated given the interconnectedness of European financial systems and the importance of their stability to global capital markets”. As the Report also made clear, there are other, probably more medium-term risks posed by evidence of low bond yields in many advanced countries and signs of an intensifying search for yield as capital flows into alternative assets, including into emerging markets. Against this backdrop of risks, it is in the collective interest of banks to continue to build up progressively their capital and liquidity resilience so that they support not only themselves, but also the stability of the financial system as a whole. The Basel III agreement, and the reform programme of the G20 and the Financial Stability Board set up under the G20, will provide the supporting framework by which the authorities will back up the discipline of the market to achieve and maintain financial stability.