Capital, in effect, helps protect firms against “runs,” both traditional “runs” where short-term funding and liquidity are at issue, and more gradual, but just as damaging “runs” on franchise value, where customers turn elsewhere for services because they question the long-term viability of a firm. Consolidation has resulted in larger and more diverse financial institutions at the core of the U.S. financial system. Deregulation has enabled firms to better optimize the scale, geographic spread, and scope of operations. The result has been the creation of some extremely large and diverse financial institutions with high earnings capacity. In 2003, 18 U.S. bank holding companies and six securities firms each earned more than $ billion, with the five largest bank holding companies earning a combined total of nearly $ billion, over 40 percent of the banking industry total. Along with capital, these earnings provide a substantial cushion to absorb losses, significantly moderating the consequences of an adverse event. The wider scope of activities and greater domestic and international geographic diversification of these firms also provide a more stable revenue base. Advances in risk management have also enabled firms to hedge risks more effectively and, in the aggregate, to disperse risk more efficiently across firms in the financial system. Given advances in data collection and risk modeling, banks and other financial firms are able to do better risk-based pricing. Firms now have the capacity to view credit and other key risks from a portfolio perspective rather than in isolation, leading to more efficient risk sharing and better capital allocation.
Measured against the OECD’s top three performers, the euro area is lagging far behind in both product and labour market efficiency, with no euro area country in the top three and with the largest euro area countries often underperforming the euro area average[17]. 2  BIS central bankers’ speeches  In recent years we have seen a number of important reforms, particularly in those countries that carried out economic adjustment programmes. The main focus has been on reforms in the labour market. The nominal and real labour market rigidities that we have traditionally lived with in Europe have resulted in what is being called the “European unemployment disease”: persistently high unemployment rates and a limited ability to adjust to economic shocks. You get a very telling picture if you plot the unemployment rate in the euro area and in the US over several decades – say, from the 1970s. Every time there is a downturn in economic activity, the unemployment rate goes up in both regions. However, whereas the US quickly readjusts when the economy picks up, the euro area takes much longer to do so and once the unemployment rate actually starts falling it almost never seems to return to that previous low. The end result is that euro area unemployment has risen steadily for 40 years. [18] That said, there is solid theoretical and empirical evidence showing that greater flexibility results in much lower equilibrium unemployment rates[19].