In 1986, Norges Bank provided substantial loans to the banks – at the highest around NOK 80 billion – to prevent a rise in money market rates after large-scale NOK purchases had been made in support of the krone. 44 The loans, which were unsecured, were kept on Norges Bank’s balance sheet when solvency problems at the banks began in 1987. Norges Bank was later criticised for providing these loans. Although the criticism was misdirected, the loans did make it more difficult for the government to manage the banking crisis. 45 Today the Bank no longer provides unsecured loans and we have gradually tightened collateral requirements. Many banks rely heavily on short-term funding in international and domestic money markets. The lesson from the most recent financial crisis is that a shortfall in foreign funding can weaken stability in the financial system in Norway, even if the banks’ financial position is not in jeopardy at the outset. The next step will therefore be not only to require collateral, but also impose requirements on our clients – the banks – to improve their funding strategies. Banks must not be given the scope to take on substantial liquidity risk in the belief or with the certainty that Norges Bank will intervene should foreign funding seize up. A market functions poorly in the long term with such hidden support. With large unsecured loans, Norges Bank ended up providing income support in one instance in the 1980s when a savings bank experienced solvency problems.
In China, a large share of income was saved, either in the form of investment in new production equipment or financial assets. The increased supply of financial savings pushed down global long-term interest rates. Lower interest rates encouraged consumers and businesses in other countries to borrow capital from China and other surplus countries. The foreign debt of countries such as the US and UK accumulated rapidly in the years leading up to the crisis. BIS Review 163/2009  1  Historically low interest rates prompted fund managers in Western countries to seek out new alternatives in their search for high yields. New financial savings products were developed and spread to investors around the world. It was often difficult, or even impossible, for investors to value the risk underlying the products. Yield potentials can also be increased by leveraging securities purchases. As long as prices rise, the return on equity will increase with the degree of leveraging. On the other hand, the risk of being left with debt, and little or no equity capital, increases when prices fall. In the years ahead of the crisis, high debt leveraging still appeared to be an attractive proposition in an environment of low credit risk and a glut of cheap credit. The result was a surge in debt accumulation in the years preceding the crisis. Prices in securities and property markets soared. The build-up of macroeconomic imbalances in the years prior to the crisis increased vulnerabilities and the potential amplitude of a downswing.