European Central Bank President Jean-Claude Trichet said Europe's financial system is sound despite the current market correction, but more needs to be done to improve future financial stability.
Overly complex debt products, excessive reliance on rating agencies and some non-regulated investment vehicles were targets of Trichet's criticism when he spoke to a European Parliament committee on Tuesday.
"We are now in a correction phase which can, as frequently observed in such situations, comprehend episodes of hectic behaviour, a high level of market volatility and elements of over-shooting," Trichet said.
But market turbulence had not dented the underlying strength of the financial system to date, he said.
"Credit losses were not significant enough to materially impact the soundness of core financial institutions," he said.
The global credit crisis that developed in August was triggered by defaults on U.S. mortgage debt that had been extensively repackaged and sold on as asset backed securities to institutional investors, including hedge funds, around the world.
Major central banks, including the ECB, have had to inject emergency funds into the global financial system as doubts about banks' credit exposure make them reluctant to lend to each other.
Trichet did not make any new comments on monetary policy, but instead focused on the need for greater financial market transparency to boost investors' confidence.
"We need to restore confidence as we have a paradox that there is a large number of high quality assets which investors are currently treating as if they were not creditworthy."
Trichet said it was still early to draw clear lessons from the market turmoil, but described the complexity of some debt products as "overwhelming" and said they should not be used by banks that were incapable of calculating their risk.
"The current episode has demonstrated that the underlying assumptions in the pricing models for complex instruments are not always robust to changing financial market conditions," he said.
The small number of big ratings agencies was also a "real issue," leading to potential conflicts of interest, Trichet said.
"An important lesson of the current risk re-pricing is that investors must never take the opinion of rating agencies as a substitute for their own credit analysis and due diligence."
The new Basel 2 rules would help improve bank regulation, but more needed to be done other issues such as harmonising national liquidity rules and regulating investment vehicles which are not covered by banking rules, Trichet said.
He cited both those like conduits, which had been implicated in the current market turmoil, and those such as hedge funds and private equity funds which have not.