Financial Stability: Parallel Processes  Recognition of these three “must do” areas is a starting point in deciding the scope of our financial stability work and in enabling us to fulfil our MoU mandate. But it does not provide a clear steer on what we actually have to do to carry out our functions efficiently and effectively. Regarding long term thinking, which might one day lead to an analogue to monetary policy, we are undertaking a research project. This is separate from our day to day activities where a set of organising principles can be used operationally to handle today’s issues. i)  Research and Development: Creation of an Analytical Framework  The research project is an attempt to devise an analytical framework as an analogue to that in monetary policy: to help clarify some of the differences I outlined earlier and to provide greater certainty and focus. As with the development of monetary frameworks, this will be a medium to longterm endeavour. This may sound overambitious. But even modest achievements towards it would enhance understanding of what financial stability oversight is about, and what our priorities should be in seeking to ensure it. And so it could assist our quest for clearer accountability and more transparent governance arrangements. This quest gets to issues such as how to define our financial stability objective, how to articulate indicators of financial stability, and how they relate to each other.
Given the extensive consolidation of firms in the financial industry, the information systems of many firms are an accretion of systems, with issues of consistency, comprehensive aggregation of exposures and speed of information retrieval for analysis. For example, most firms in distress find it difficult to answer a crucial question: what market participants are most exposed to me and how will they react to my difficulties? A second impediment is the complexity of unwinding certain books of business, where the business is originated in one location, recorded in another and risk-managed in a third. Derivative transactions are a prime example. The level of complexity related to how and where trades are marketed, booked, funded and risk-managed leads to high levels of connectedness within the firm, particularly as institutions book “back-to-back” intragroup trades to transfer the economics of a transaction to a central portfolio for risk management purposes. The third impediment is the use of intragroup guarantees. Institutions sometimes use parent guarantees to support and cover particular transactions or the entire operations of separately capitalized subsidiaries in foreign countries. Guarantees of this sort allow firms to operate subsidiaries with less capital, but can distort the pricing and economics of the subsidiary’s business activities and make the subsidiary more valuable to the current owner than to a potential buyer. In addition, the default of a guarantor may allow counterparties to terminate contracts and seize collateral even though official sector efforts are attempting to preserve the local operations. The fourth impediment is the need to preserve global payment operations.