The central bank says the outlook for the global financial system is less worrying than it was a year ago at the height of the global financial crisis, but there are still challenges ahead.

Regulators will have their work cut out trying to adapt supervisory frameworks to reduce the chances of a repeat of the fallout that occurred in late 2008, starting with the collapse of US investment bank Lehman Brothers.

“Realistically, the task is to reconfigure regulatory frameworks to lower the probability, and the cost, of future crises while assisting recovery from the recent one,” Reserve Bank of Australia (RBA) governor Glenn Stevens said on Tuesday.

“That is every bit as difficult a challenge as getting through the immediate crisis itself.”

One of the most difficult issues will be the supervision of so-called “too-big-to-fail” banks or institutions, corporations deemed too important to be allowed to go under when crises develop.

During the recent crisis, many governments spent money shoring up or nationalising such institutions to protect the money of their citizens and prevent runs on banks.

“But as the crisis recedes, and the global financial system is gradually nursed back to health, it is this issue that is going to leave the biggest lingering challenge,” he said during a speech to the Australian Business Economists annual dinner in Sydney.

The Financial Stability Board (FSB), set up in April 2009 to deal with financial system issues and comprising central bank representatives from around the world, would be paying “particular attention” to it in 2010.

“It is not likely to be amenable to simple solutions, or easy ones,” Mr Stevens said.

“In the mean time, enormous moral hazard, perhaps greater than ever before, exists in the global financial system as a result of the actions - albeit essential ones in the circumstances - of 2008.”

Mr Stevens said regulators will need to strike the right balance between costs and benefits of revised regulatory structures and practices, and be alert to unintended consequences.

He noted that in good times lenders and investors tend to be confident and act with less caution, standards decline and banks are pressured to use surplus capital or return it to shareholders, rather than put it aside to further address capital adequacy issues.

In the last boom, financial institutions’ remuneration packages “appear” to have been structure to encourage excessive risk taking, Mr Stevens said.

“It will also take a great deal of determination on the part of regulators to enforce arrangements adequately in future booms,” he said.

“And there is little doubt such booms will occur because, ultimately, the cycle of greed and fear itself cannot be regulated away.

“To assume that unrealistic optimism will not again, at some point, overwhelm the more sober instincts of investors, bankers, commentators and others would be a triumph of hope over experience.”

But Mr Steven said it was not beyond regulators around the world to achieve the necessary changes in 2010, as the major economies continue to find their feet and resume growth.

“As 2009 draws to a close, things in the global financial system look much less worrying than they did a year ago,” he said.

“With the sense of immediate crisis much reduced, regulators can devote more focus to the job of designing and implementing changes to regulatory frameworks - work that is better done outside a period of crisis anyway.”

AAP