The risk premium in the interbank market has generally driven up the 3-month LIBOR which serves as the reference rate for the pricing of  15  Georgios Chortareas, David Stasavage, and Gabriel Sterne, 2002, “Does it pay to be transparent? International Evidence from Central Bank Forecasts”, Review of the Federal Reserve Bank of St. Louis, July/August, 99-117. 16  Frederic S. Mishkin, 2004, “Can Central Bank Transparency Go Too Far?”, NBER Working Paper No. 10829, p. 25. 17  In fact, the Bank of England would have preferred to act covertly, but the market abuses directive prevented this (http://www.guardian.co.uk/business/2007/sep/21/14). BIS Review 141/2007  5  credit. At the same time, interest rates on risk-free securities such as Government notes have declined. The result is a significant increase in the TED spread (the difference between an uncollateralized interbank loan and the risk free rate of the same maturity). With the 3-month LIBOR rising, central banks faced an important monetary policy decision. In countries where the official target rate is a central bank rate, for instance, the euro zone, the 3-month LIBOR became increasingly disconnected from the official target rate (typically a repo rate of two weeks or less). As you can see from Graph 1a, the ECB held its official target rate (the two-week repo rate) constant and therefore tolerated an increase in the 3month LIBOR.
In Switzerland, the supervision and regulation of banks has traditionally been the responsibility of a separate independent authority, the Swiss Federal Banking Commission (SFBC). 2 So, where does the attention to financial stability come from? Let me offer you two straightforward reasons, followed by one that is perhaps slightly more subtle. First, in an advanced sophisticated economy, monetary policy would be severely challenged without a stable financial system and in particular without a stable banking system. Central banks depend on a functioning network of banks to conduct monetary policy operations. In theory monetary policy could be conducted without banks. For instance, we could increase liquidity by dropping currency from the proverbial helicopter. 3 Surely, doubts are justified as to whether this would be as effective as conducting auction-based repo transactions with robust banks. Second, a stable financial system with solid banks is of great importance for the development and growth of the economy. In Switzerland, for instance, the financial sector contributes nearly 15% to GDP and is therefore the most important industry in the economy. 4 Moreover, according to a recent study, the financial sector in Switzerland has in recent years contributed as much as 50% to economic growth. 5 The financial sector also provides essential inputs and services to all other industries. Here, I am thinking primarily of the banks that provide credit and liquidity to private households and firms.