Part of the dynamic at work was that banks were forced to provide financing for – or take over – the assets in a range of structured investment vehicles and conduits financed by asset-backed commercial paper. As some investors attempted to liquidate their holdings of these assets, many of the traditional providers of unsecured funding to banks pulled back from their counterparties in anticipation of the potential withdrawals of funds by their own investors. BIS Review 39/2008  1  Market participants’ willingness to provide term funding even against high-quality collateral declined dramatically. As a consequence, the cost of unsecured term funding rose precipitously and the volume shrunk. Banks were funding themselves at shorter and shorter maturities. As unsecured term funding markets deteriorated, the premium on liquid, marketable collateral – such as Treasury securities – rose considerably. Even with the dramatic actions by the Federal Reserve and other central banks to address these liquidity pressures, the strains in financial markets persisted. In many respects, conditions worsened materially in February and March. Credit spreads on financial institutions widened, equity prices declined and market functioning deteriorated sharply. By the early part of March, the threat of a disorderly adjustment was growing. What we were observing in U.S. and global financial markets was similar to the classic pattern in financial crises. Asset price declines – triggered by concern about the outlook for economic performance – led to a reduction in the willingness to bear risk and to margin calls.
•  We need to substantially simplify and consolidate the regulatory framework, to reduce the opportunity for regulatory arbitrage, not just in the mortgage market, but more broadly. •  We need to make the financial infrastructure more robust, particularly in the derivatives and repo markets, so that the system can better withstand the effects of default by a major participant. •  We need to redesign the set of liquidity facilities that we maintain in normal times, and in extremis, in the United States and across other major central banks. And these changes will have to come with a stronger set of incentives and requirements for the management of liquidity risk by financial institutions with access to central bank liquidity. •  And we need to make sure that the Federal Reserve has the mix of authority and responsibility to respond with adequate speed and force to the prospects of systemic threats to financial stability. Conclusion We look forward to working with the Congress and the Executive Branch to put in place a system of financial sector oversight and crisis management that works well in the context of a 21st-century financial system.