The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.

In the international financial arena, G7 policymakers chant three things: more market‐sensitive risk management, stronger prudential standards, and improved transparency. The message is that we do not need a new world order, but we can improve the workings of the existing one. While many believe this is an inadequate response to the financial crises of the last two decades, few argue against risk management, prudence, and transparency. Perhaps we should, especially with regards to market‐sensitive risk management and transparency. The underlying idea behind this holy trinity is that it better equips markets to reward good behavior and penalize the bad, across governments and market players. However, while the market is discerning in the long run, there is now compelling evidence that in the short run, market participants find it hard to distinguish between the good and the unsustainable; they herd; and contagion is common.

This paper discusses a 'pure' form of financial contagion, unrelated to economic fundamentals -investors' shifting appetite for risk. It provides an analytical framework for identifying changes in investors' risk appetite and discusses whether it is possible to directly measure them in a way that can enable policy makers to differentiate between financial contagion and domestic fundamentals as the immediate source of a crisis. Daily measures of risk appetite are computed and their usefulness in predicting financial crises is assessed. *We are grateful to Natalia Alvarez-Grijalba, and Sreekala Kochugovindan, of State Street Bank, and to Ken Kashiwase for statistical support, and to Stephen Sprat for his contribution on the psychology of financial behaviour. We also thank two anonymous referees, Benn Steil, Montek

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If the G's are the world's steering committee, the step from G7 to G20 deepened the democratic legitimacy of this committee. However, it also shifted influence to a group that share little else other than economic power: they have diverse experiences, challenges, cultural perspectives and starting points. This is particularly the case in the field of financial regulation, where action across these countries in recent months—despite all the language of global regulation—is increasingly local. The prospect of the new global being quite local has dismayed some. But it need not. This article challenges the dichotomy of more global versus more local. It argues that financial internationalism—greater cooperation by nations for the benefit of all—is better served by institutions that help to integrate diverse systems than those which try to enforce one‐size‐fits‐all approach to very different economies. International banks persuaded regulators of the benefits of home country regulation and a level playing field for bankers. But the benefits accrued largely to the banks in the boom and proved an avenue for contagion during the crash. Host country regulation may prove a safer way to regulate financial systems, in particular by allowing regulation to be more responsive to national economic conditions and cycles. It is likely that a shift back to host country regulation will act as a drag on international capital flows. The instinct of economists is that the cost of this is uncertain, suspect and conditional, especially when compared to the costs of financial crashes. Host country regulation does not mean there is no role for international institutions, such as the newly minted Financial Stability Board. Instead, it suggests a more nuanced role, potentially encompassing the policing of international market infrastructure, financial protectionism, information free flow between regulators and the convergence of regulatory principles and the consolidation of regulatory instruments. An informed and collegiate process of integrating different financial systems will be a more resilient system than one which tries to apply a single rule book across inherently different countries.