Our accounting and prudential regimes have increased procyclicality in recent years. This is detrimental to a stable flow of credit to the economy. In a mark-to-market environment, asset price increases quickly translate into a larger capital base of financial institutions, which, in turn, trigger additional demand for assets and a further increase in their prices. A spiral is launched. Actually this is a kind of “inverted demand curve” where demand increases with prices and vice-versa, possibly creating the conditions for deep and lasting financial instability. Addressing procyclicality caused by the regulation itself is therefore a priority. The first line of defense against procyclicality should be the accounting framework. I strongly support the current focus on changing the accounting rules. Reducing the scope of the markto-market approach and moving from an incurred loss model to a forward-looking model is essential. The ultimate objective of ongoing negotiations is to create synergies between prudential and accounting standards. Some of the procyclicality can also be trimmed through prudential regulation. Efforts to make solvency ratios potentially less procyclical are welcome and should be pursued. In particular, those efforts aimed at imposing a measure of risks “through the cycle” are useful. Other options to reduce some of the procyclicality through prudential standards include a fixed buffer or a countercyclical capital buffer. I see clear limitations to the former and challenges for the latter. In any case, such mechanisms may not necessarily be cumulative and we may have to choose. How can we address systemic risk?
Christian Noyer: Banking regulation and the financing of the economy Introductory speech by Mr Christian Noyer, Governor of the Bank of France and Chairman of the Board of Directors of the Bank for International Settlements, to the Paris-Europlace Forum, New York, 26 April 2010. *  *  *  It is a great pleasure for me to be here in New York and address the audience of this ParisEuroplace Forum. As always, the forum is an opportunity for sharing experiences and perspectives. As we make progress in our efforts to strengthen financial regulation, such discussions are very valuable for confronting views and making sure that we are on the right track. To some extent, the ultimate aim of financial regulation has to do with financing the real economy. Sound regulation should enable the stable provision of financial services to economic agents as they strive to finance their activities. This is why I would like to discuss with you a few aspects of the current reforms of financial regulation that are critical in terms of the financing of the economy. More precisely, in the few minutes I have, I would like to share with you some thoughts on three important policy challenges. How can we make our financial systems more resilient and therefore capable of financing the economy on a long term basis? How can we reduce the procyclicality of financial systems? How can we address systemic risk?