But in virtually all of this literature, financial intermediaries – if present at all – are very simple  12  See e.g. Christiano, Motto and Rostagno (2008); Curdia and Woodford (2009); Gerali, Neri, Sessa and Signoretti (2008); Goodfriend and McCallum (2007), as well as the earlier work on the broad credit channel  16  BIS Review 101/2009  institutions and any incentive or information problems relate to the borrower. But much of what has happened recently is best understood in terms of frictions that lie within the financial sector itself. Models that have a role for bank capital and where the evolution of banks' balance sheets play a central role 13 , such as the recent contribution by Gertler and Karadi (2009) mentioned earlier, come closest to providing a suitable framework for analysis. However, even these contributions neglect important features of the present crisis. Developing macroeconomic models with a sufficiently rich specification of the financial intermediation sector that capture the variety of incentive distortions and information frictions I have discussed this evening represents a challenging research agenda 14 . Reintroducing the financial intermediation sector as a source of shocks, rather than merely acting as an amplifying mechanism as the broad credit channel does, would represent something of a return to older models of the business cycle, in which credit creation and destruction played a central role. There has, in particular, been renewed interest in the work of Hyman Minsky as a result of recent events (see e.g. Minsky, 1982).
Following a long period of unusually good economic performance, characterised by relatively steady growth and low and stable inflation in the advanced economies and rapid growth and development in key emerging market economies, we have seen the eruption of a systemic financial crisis of quite unusual intensity and international reach. The nearest precedent is probably the widespread closing of international capital markets on the eve of the First World War. And associated with that, we have seen the sharpest internationally synchronised slowdown in growth in the post-war period, together with an unprecedented contraction in world trade. To the public at large our present troubles are the fault of: whiz-kid financiers, who created financial instruments that even they didn’t properly understand; greedy bankers, who pursued profit and personal reward without regard to risk or common sense; somnolent supervisors, who failed to adequately regulate and restrain those bankers; and negligent central bankers, who allowed an explosion in liquidity, credit and asset prices that supported the whole rotten edifice. And all the while, the culprits were cheered on by an economics profession that was over-enamoured of theoretical models, blind to the lessons of history and subject to a severe case of “group think”. Wasn’t it blindingly obvious that the whole house of cards would come crashing down at some point? As one of those involved in responding to the crisis – and some might charge also a bit part in creating the conditions for it – I want to look this evening at how we got here.