The future of financial regulation

The current crisis stems from a long period of macroeconomic imbalances, characterised by excess liquidity and major current account imbalances in certain areas of the world. This environment encouraged the issuance of low-yielding debt instruments, but also spurred investors to seek higher yields through more risky products. In this context, the transfer of credit risk by financial institutions to protect their balance sheets resulted, due to the fragmentation and opacity of the markets, in a situation where the location of risks and the size of exposures were unclear. This crisis calls for a thorough review of financial regulation and in particular of the relations between markets, players and products. In the light of this situation, the primary objective of all regulators is to restore confi dence in the financial system. The first step in achieving this is to re-establish the soundness of its players. The second step then consists in addressing the disruptions in financial markets: enhancing the transparency of the credit market, improving the security of settlement systems and, lastly, extending the scope of regulation to cover other market players such as hedge funds and credit rating agencies.