The global credit crisis is far from over and may come in waves, a source close to the Basel Committee on Banking Supervision said on Friday.
Regulators from around the world will meet next week to discuss what the source described as the "hard-core liquidity crisis" which has forced central banks to inject billions of dollars in emergency liquidity into the banking system.
But the source, who declined to be named, said the Basel Committee was unlikely even to discuss suggestions that central banks should become market makers of last resort when liquidity dries up, saying such an idea is out of the question.
Stock markets have hit record highs in recent days due to optimism that the worst of the credit crisis may be over, while primary U.S. bond markets and some loan markets have revived following the Federal Reserve's interest rate cut on Sept. 18.
But regulators on the Basel Committee are less optimistic as they gather in the Swiss city. "In banking and in supervisory circles, this crisis is far from over," said the source. "This crisis may unfold itself in waves."
The Committee will put the liquidity crisis, in which banks have been largely unwilling to lend to each another, at the top of its agenda, the source said.
"Liquidity hasn't played a big role so far but now we can see that we have a hard-core liquidity crisis," said the source.
"This is something that has very rarely happened before ... where banks don't trust each other."
Liquidity -- or lack of it -- is one of the top risks for banking institutions, but rulebooks such as the international Basel II accord which the Committee drew up have focused instead on capital requirements.
Committee deliberations are unlikely to result in proposals for a new liquidity risk charge -- which would force banks to set aside more emergency cash -- but rather in guidelines or "soft regulations" on how to cope with crises, the source said.
"The core of the issue is stress testing and contingency plans," the source said.
The source said Committee members were unlikely even to debate suggestions by some private-sector bankers that central banks become market makers of last resort for illiquid assets to keep the wheels of international finance turning.
"This is out of the question. This is something the market wants but at the current time there is no debate on this," the source said.
"If any central bank opened this possibility, they would be flooded, literally flooded, with hundreds of billions in asset backed commercial paper," the source said. "This would be a classical case of bailing out the speculators."
The global credit crisis that developed in August was triggered by defaults on U.S. mortgage debt that had been extensively repackaged and sold as asset backed securities to institutions, including hedge funds, around the world.
Regulators have been torn between ensuring that markets keep working by providing emergency liquidity, and the risk that this will simply inflate another market bubble following the equities boom of the late 1990s and the property boom of this decade.
They are also anxious to avoid "moral hazard" in which investors, shielded from risk by official bailouts, are encouraged to behave increasingly recklessly.