What financial system for the 21st century?

BIS speech  | 
26 June 2011

Per Jacobsson lecture by Sir Andrew Crockett - 26 June 2011


It is a pleasure to be back at the BIS and a great honour to deliver the Per Jacobsson Memorial Lecture. Allow me to begin by remembering the man who stood at this lectern a year ago - our common and much-missed friend, Tommaso Padoa-Schioppa. His wisdom touched and enlightened all of us in this room. He was at heart a central banker, but in the course of an incredibly varied and distinguished career, he had many other roles. He was probably proudest of the key part he played in European Monetary Union, initially as a senior official of the European Commission, then as rapporteur for the Delors Committee, and later as a founder board member of the European Central Bank; but always as a persuasive advocate of European integration.

In addition, he was a securities regulator, a Minister of Finance, Chairman of the International Monetary and Financial Committee, Chairman of the Basel Committee, Chairman of the Committee on Payment and Settlement Systems, Chairman of the Trustees of the International Accounting Standards Board, and much else besides. Indeed, as I remarked in introducing him last year, if he had held all his roles at the same time, he would have been entitled to eight seats in the Financial Stability Board.

Tommaso Padoa-Schioppa was by conviction an internationalist, by temperament an academic, and by profession a policy-maker. His lecture last year exhibited all these perspectives in extraordinary measure. It painted on a broad canvas. His assessment of the financial crisis included a penetrating analysis of the limitations of the post-Westphalian model of state sovereignty in an integrated world economy. On this philosophical basis, he then drew conclusions for the way in which governments and markets interact in the current global system of shared monetary and economic decision making.

Like Tommaso, I will try in this lecture to go beyond the immediate debate on regulatory reforms to consider some more general issues. My topic is the principles that should underpin the financial system for the medium- and longer-term future. This means asking what basic functions we expect an efficient and stable financial system to perform, and how such a system adds value to the real economy. It means dealing with the system's apparent tendency to instability in ways that strengthen, rather than weaken, its contribution to optimal resource allocation. And it means exploring the appropriate balance between market discipline, regulation and public sector intervention. In the course of these remarks, I will try to expand the current debate in two directions: first, to encompass the whole financial system, and not simply the banking sector; and second, to ask not just what we want the financial system to avoid (namely, periodic crises) but also what we want it to achieve (the best way of adding value to the real economy).

The financial crisis that began nearly four years ago has raised fundamental questions about how the financial industry is structured, managed and regulated. Given the depth of the crisis, and the enormous economic and social costs of the ensuing recession, this comes as no surprise. In the public square, there is anger and resentment. Anger, that the sector that is supposed to facilitate the efficient working of the rest of the economy should be subject to such spectacular flaws and impose such large costs. And resentment, that those who appear most directly responsible for the crisis should be let off so lightly. As a result, much of the response to the crisis has focused on preventing at all costs a repetition, and responding to the public's desire that banks and bankers pay a price for their past failures.

But while anger and resentment may be useful spurs to action, they are much less helpful in shaping a balanced response to the crisis that both safeguards society against financial fragility and preserves the contribution that the financial sector makes to high-quality sustainable growth. For such a response, I believe we need not just an analysis of the weaknesses that led to the crisis and of the measures that would prevent a recurrence, but also an understanding of the contribution we expect from a well-functioning financial sector and the fundamental requirements that underlie it. Let me begin, therefore, by defining what I mean by the financial system.