2/ – the operational framework: most Central Banks conduct monetary policy through changes in interest rates. Many do not pay close attention to monetary aggregates. The Eurosystem stands alone in developing a formal monetary analysis through its “second pillar”. At the very least, however, the crisis has shown that liquidity matters. The assumption of permanent liquidity allowed the shadow banking system to develop and proper. Excessive maturity transformation has fueled the growth in leverage. Liquidity premia were all but eliminated for a long period of time. It is legitimate question whether those evolutions have implications for monetary policy. Recent research tends to show that even small changes in policy rates could have had nonnegligible implications forcing some intermediaries to close leveraged positions and, potentially, to partially correct some financial imbalances. Those issues may still be relevant today when in face of uncertainty, liquidity provision remains important. This is why, even for monetary policy purposes, Central Banks should keep actively monitoring asset prices, credit flows and liquidity conditions. 3/ – a closely related question pertains to the transmission mechanism. Evidence tends to show that risk appetite tends to increase when interest rates stay low and liquidity is perceived as abundant. This is called the “risk taking channel” of monetary policy. Risk taking behaviors are amplified when monetary policy is permissive. Ultimately, this channel creates a link between the levels of interest rates and risk premia.
But while nearly all markets are subject to regulation, relatively little thought has been given over the past decade to how different markets matter to stability and, hence, about the role of the authorities in this area. 1  On that, see the Bank of England/FSA paper released last week on how banking supervision is being reformed in the UK in preparation for the establishment of the new Prudential Regulatory Authority. 2  See Tucker P M W “Macroprudential Policy: Building Financial Stability Institutions”, 2011 for a discussion of macroprudential regimes. 3  Bank of England Annual Report and Accounts 2010 pp 26–27. BIS central bankers’ speeches  1  Markets matter to stability in different ways As a provisional attempt at this, I think it might be helpful to distinguish between three types of market: infrastructural markets, intra-financial-system markets, and end-user markets. The first type is those markets that provide essential, quasi-infrastructural support to banking. The obvious example is the overnight wholesale money markets. They are effectively part of the payments system infrastructure. Banking, which is integral to the provision of all three core financial services, simply could not operate without these markets. They have long been, and will remain, of concern to central banks. I will not return to them today. The second category is intra-financial system markets (a slightly broader concept than inter-dealer markets). These markets determine the interlinkages amongst financial firms.