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Central Banks Look at Improving Liquidity Support
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Central banks have been more active in providing liquidity support for key markets throughout the recent financial market turbulence because well-functioning markets are important for the conduct of monetary policy and the efficient operation of the economy, Bank of Canada Governor Mark Carney said today in a speech to the New York Association for Business Economics.
He spoke of the principles that central banks should follow to support liquidity in markets. These include limited, selective intervention and the promotion of the sound supervision of liquidity-risk management - principles to which the Bank of Canada has adhered in its provision of
liquidity support.
Central banks can potentially maximize the effectiveness of their interventions and minimize the risk of moral hazard - that the interventions might encourage behaviour that would increase the likelihood or severity of a future crisis.
To determine whether actions to support market liquidity are appropriate, the Governor said, a central bank "should ask itself four questions: First, is the impairment of the market temporary or permanent? Second, will the instruments at its disposal be effective? Third, what net benefits could come from intervention? Fourth, what are the likely costs?"
THe subprime dump have challenged the belief that central banks could adequately support markets by allocating liquidity through commercial banks, or by altering liquidity in payments systems, noted Governor Carney. The financial system will be more stable, and the effects of monetary policy actions more predictable, if the central bank directly supports liquidity in
markets when appropriate.
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econmod
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Jun 9, 2008, 11:35 AM
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