Such fluctuations can also expose bank portfolios to a higher risk of losses, inducing banks to compensate for these risks by restricting credit. Let me stress that, although a price stability oriented monetary policy is conducive to financial stability over the long term, episodes of financial instability have been known to take place during periods of low inflation. Price stability must be therefore regarded as a necessary but not sufficient condition. Other parameters influence financial stability, among which financial integration is of particular interest from the point of view of a central bank in the Euro area. 2.2  The relationship between financial integration and financial stability is twofold:  •  First, the liquidity redistribution function has taken on a new dimension as participants in the market are dealing with a wider range of counterparties, and actually trade larger unit amounts. Some bank treasurers in Paris mention that the average face value in euro of single transaction today is equivalent to the face value of a transaction in French franc in 1998, that is, more than six times higher. •  Second, financial market integration is related to the trend towards the greater share of markets in the allocation of assets. At the end of 2000 financial assets in the euro area were  Dow Jones is 70% over the period January 1999- October 2002 (70% when the measure is based on SP500), and 100% between CAC and Eurostoxx50 (97% between DAX and Eurostoxx 50).
Value-at-risk calculations have become a crucial element of the standard approach used by market participants to evaluate the risk inherent in their market activities and to set up exposure limits. Of course, central banks and financial institutions should continue to encourage the use of these instruments. But, in times of financial turmoil, the growing use of sophisticated risk management techniques by financial intermediaries might have the paradoxical effect of amplifying the initial shock, exhausting liquidity and contributing to contagion phenomena. Regardless of the intrinsic qualities of these risk management tools, we see that their growing use in the same fashion by all market participants may have produced pernicious effects. When market players rely on converging risk evaluations, they tend to take the same decisions at the same time, thus amplifying initial shock to prices and trading volumes. Financial techniques can also reinforce the links between the various market segments. A striking feature of recent developments on financial markets is the quick spreading of disryptions from one market segment to another, especially between equity and credit markets. For example, the short selling of equities is sometimes used to hedge credit risk. The underlying reasoning is that if there is a credit default, the value of the equity will decrease symmetrically, and an equity gain will compensate the lender for the credit loss. As a result, the fall in the equity value, which is triggered by the credit default, is amplified by the short selling operation.