C. Peter McColough Roundtable Series on International Economics: A Conversation with Jean-Claude Trichet

JEFFREY ROSEN:  Good afternoon, and emerging into good evening.  Let me all welcome you here this evening.  My name is Jeffrey Rosen.  I am very pleased to be your presider and moderator today.  Let me first begin with the traditional ground rules and also to remind you that this meeting is part of the C. Peter McColough Series on International Economics.  It is a series that is sponsored by the Council's Corporate Program and the Maurice R. Greenberg Center for Geoeconomic Studies.

I also would like to tell you that this session, unlike the Council's not-for-attribution sessions, is in fact on the record.  And finally, as they do in the movies, let me remind you to turn off cell phones, BlackBerrys and all wireless devices.  In fact, I'll pause 10 seconds to make sure you look at them and turn them off.  They can be remarkably disturbing, especially these days when people have these very novel and imaginative cell phone and telephone ringers. 

When we -- when Jean-Claude Trichet finishes his remarks, we will have a question-and-answer session.  I think you all know how those are conducted, but I will call on individuals in the audience.  There will be microphones for you to use to ask your questions, and what we do ask is that you stand, state your name, your affiliation and your question -- and try to make it a question rather than a statement because we want to get in as many of them as possible. 

Jean-Claude Trichet has appeared here before.  You know him by reputation.  You know him, undoubtedly, by his past appearances, and you will know him by the CV that you see of him in the little folders that you may have picked up on the way in.  I have known him as a remarkably accomplished central banker who brought exceptionally strong credentials to the European Central Bank and has done an extremely good job since then.  And what I find about him that's especially interesting is his ability to articulate thoughtful points of view on a wide range of issues that goes beyond what one normally sees central bankers describing and discussing.  So with that as an introduction, let me introduce to you Jean-Claude Trichet.

(Applause.)

JEAN-CLAUDE TRICHET:  Thank you.  Thank you very, very much indeed.  It's a pleasure to be -- to be there with you.  It's not the first time, as you have said, that I have been invited by the Council on Foreign Relations in New York City, but I'm very impressed because it seems to me that you have embellished the Council on Foreign Relations in a very, very efficient manner.  So I would say congratulations for the embellishment.

In my talk today I will look at some key features of global economic and financial integration and elaborate on how the key international fora and institutions in charge of international financial cooperation have responded to this process.  The global integration of national economies continues at a very, very significant pace.  The scope of goods and services, as well as capital and labor that are being exchanged between economies is striking.  A growing number of countries and economies are involved in this exchange and can reap the benefits that are associated with it.  They are tremendous, those benefits. 

I cannot help mentioning here the incredible number of jobs that have been created all over the world by this open, global economy that we are constructing, jobs created in the emerging countries so visibly and strikingly, and not only in emerging Asia, jobs that have been created in the developed world, in the industrialized world.   The level of unemployment in the United States is impressive, and let me only tell you that at the present level, which is not as flattering as I would hope, but in the euro area we have the lowest unemployment rate since 25 years.  So jobs are created in all economies in the world in the present episode of the global economy.  But let me concentrate first on the major global economic trends and mention the issues at stake.

One important structural feature of today's global economy is the interdependence of countries and economies as they become more and more integrated in the world economy.  This growing integration pertains not only to trade in goods and services, but also to cross-border movements in labor and capital.  Looking at trade data, we observe that global trade openness has basically doubled over the last 20 years, and in terms of world exports and imports of goods and services as share of world GDP, came from 30 percent to 60 percent.  Trade in intermediate goods and services, as a result of the rising international production processes, has been a growing driver in this regard. 

While these changes are impressive indeed, even far-reaching developments have taken place in the area of financial integration.  If one takes the share of gross international asset holdings in world GDP as a measure of financial openness, one can see a remarkable eight-fold increase over the last 25 years, to now more than 130 percent.  As far as global capital flows are concerned, it is noteworthy that the composition of these flows has changed significantly over recent years.  While foreign direct investment and international equity flows were particularly strong in the late '90s, international transactions in more liquid assets have risen in recent years, making the most of the increasing global capital movements.  International risk-sharing and the transfer of net savings across countries are very important features in this process of financial globalization. 

To the extent that I am president of the European Central Bank, speaking to the Council on Foreign Relations in New York, I was thinking that perhaps some figures could be interesting for you as regards the overall external assets of the euro area and the external liabilities of the euro area compared with the external assets and liabilities of the United States of America.  And some figures are really striking.  As regards the euro area, we were at the level of the United States, approximately, in terms of percentage of GDP in '99 -- 87 percent on our side of the Atlantic, 80 percent on the U.S. side of the Atlantic.  And for external liabilities, equally, the percentages were approximately also the same -- 92 percent on our side of the Atlantic and 91 percent on the -- on this side of the Atlantic.  So orders of magnitude of external assets in percentage of GDP, as well as external liabilities, were the same, again, as a percentage of GDP.

What is striking is that today, at the moment I'm speaking, the last figures I have are that for the euro area it is now, as far as external assets are concerned, 124 percent -- so a very big jump, from 87 (percent) to 124 (percent) -- whilst in the United States, we are at the level of 90 percent; so from 80 (percent) to 90 (percent.)   So what is interesting from that standpoint is the fact that we have embarked in the single market with a single currency has not played at all in the direction of a “fortress” euro area but, on the contrary, has accelerated the coupling to the rest of the world, from that standpoint -- from the standpoint, again, of the external assets and liabilities. 

And it is the same for the external liabilities.  We went from 92 (percent) to 137 (percent) now, when in the U.S. we came from 91 (percent) to 110 (percent).  And again, it is something which is not known -- to my knowledge it is not known -- that the level of assets and liabilities are augmenting more rapidly in the euro area than in the U.S.  It is equally not too well known, I have to say, that as regards the level of external liabilities, the euro area has the same amount of external liability as the United States of America -- something like $13.6 trillion, absolute magnitude.  As far as the assets are concerned, the euro area has a little more external assets than the U.S., 12.4 (trillion dollars), to be compared to 11 trillion (dollars).  So I thought that, again, speaking of the global structural transformation and being here in the United States and in New York, it was interesting to mention that.

Another salient characteristic of today's global economy is the emergence of new, important actors on the global economic stage.  Emerging market economies are gaining a larger share in the global economy as their product and factor markets become more closely integrated with the rest of the world.  The integration of these countries and their participation in international supply chains has clearly affected global demand and supply on a very large range of goods and factors. 

With regard to capital flows, according to the recent statistics which are published by the Institute of International Finance, emerging market economies in '06, like in the year before, are estimated to have attracted more than 500 billion U.S. dollars in net private capital flows.  Net direct investment has been, and is projected to continue to be, a large component of these flows.  Moreover, what bears emphasis is that emerging market economies in most recent years have been providing the rest of the world with net resources in the form of current account surpluses.  The drivers of these mainly official flows are in particular limited domestic absorptive capacities and underdeveloped domestic financial systems, which are the main explanation for these flows. 

In sum, these significant global economic developments are structural and systemic in nature, and have led to tectonic changes in the global economic landscape.  They have brought about substantial benefits, as I have already said, and entail inevitable challenges to all of us policymakers and market participants.  The benefits associated with the broadening and deepening of global economic internal linkages are manifold, and I will not elaborate too much on that because we all know that.  But while these benefits are indeed substantial, there are naturally also rifts and challenges that need to be clearly identified.  The ever-closer integration of national economies and the rising capital mobility have made the international system also vulnerable to changes in investor sentiment.  Furthermore, international trade and financial links intensify the transmission of shocks from one country to another, and amplify cross-border spillovers. 

A cost-benefit analysis of the global economy trends clearly shows that the benefits, again, outweigh the costs by far.  That said, it would be short-sighted to take this outcome for granted; one should not forget that not long ago, a number of severe financial crises posed a major threat to the international financial systems and I see a lot of friends in this room that have been very active participants in coping with these crises.  But let me mention the debt crisis during the '80s, which started in Poland and Mexico, the Mexican crisis in '94, the Asian crisis starting in '97, the Russian crisis in '98, the Argentinian crisis in '01 and '02.  The international community managed to resolve these crises very, very efficiently and successfully, with each crisis bringing about a learning process.  Each case was different; the underlying reasons were different, and hence, the necessary responses had to be adapted to the specifics at that moment.  Past crises shed light on the vulnerabilities of the global economic and financial system, and remind us of the importance of never being complacent. 

The major global economic trends I've just sketched out make it incredibly difficult for policymakers to provide the public good of global economic and financial stability and, consequently, strengthening permanently the resilience of the global system has become an ever more demanding and urgent task.  And this brings me to look at some key international fora and institutions that are in charge of international macroeconomic and financial issues, and see with you how they have adapted to a changing, global economic environment and evolving policy challenges.

In response to the issues and challenges just outlined, international fora and institutions have themselves undergone major changes, both in terms of their structure as well as their focus of activities.  And I would like to confine myself to four areas that I judge important but, of course, it's only part of the issue and certainly part of the description of what has been done during the past years.

I would mention first the involvement of emerging market economies in international fora and institutions.  I will mention second the focus on the multilateral and regional dimension of monitoring and surveillance.  Third, I will mention the development and agreement on global standards and codes, and fourth, I will mention the increasing attention to the integration of macroeconomic and financial surveillance.

First, the emerging market economies involvement.  I think that the G-7 itself has been instrumental in shaping the international financial architecture at a moment where it appeared that it was absolutely necessary to have the full-fledged participation of the emerging markets at a moment where we were really observing that a large number of economies were equally systemic in the functioning of the global finance and global economy.  And I think that the creation of the Group of 20 forum of finance ministers and central bank governors in '99, which was inspired by the necessity to give major economic market economies their place and having them participating in a dialogue on global macroeconomic and financial issues, was absolutely decisive. 

 The new international forum, which brought together representatives from industrialized countries and emerging economies, as well as the Bretton Woods institutions and the European Union, has been extraordinarily important in the time of the Asian crisis.  And as regards the promotion of global economic and financial stability, which was its main aim, the G-20 has been a remarkable forum for serious dialogue on a wide range of highly relevant issues, such as prudent debt management, domestic financial deepening, exchange rate regimes and international codes and standards.  Peer review of members' policy has been a very, very helpful approach used by the group.  And the G-20 has also, during that period since its creation, played an important role in forging consensus on reforms of the Bretton Woods institutions.  It's been also very constructively involved in helping shape mechanisms of crisis prevention and resolution, and even has been decisive in some respects in launching itself, or backing itself, some of the initiatives that we have taken at a global level.

I also would mention the fact that, as I said, the G-7 was also very keen on reaching out to a growing number of systematically important countries, and the fact that representatives from major emerging market economies, including Brazil, Russia, India, China, South Africa, invited to participate in the meetings so as to enable the appropriate exchange of views on issues that are of relevance to global economic and financial stability.  Again, it's now a permanent feature of the functioning of these informal groupings. 

I would note that it is a global phenomenon that such outreach activities have also been launched in the constituency of central banks and that we have, within the so-called Basel groupings within the auspices of the BIS, the very same enlargement of meditation and reflection at the global level.  And I can be a testimony myself that what we have when we meet at the level of the global economy meeting -- for instance, with central bank governors of the major emerging economies as well as the industrialized economy -- is something which is extraordinarily precious and is the mark of this new episode in globalization that is very, very impressively illustrated in this openness of the informal groupings. 

And I would of course mention the fact that the internal governing structure of the Fund, of the IMF, is currently under review, as you know.  The goal of the reform effort, in particular, is to ensure fair and adequate voice for all members of the IMF by aligning the distribution of quotas with countries relative positions in the world economy which is, again, part of this overall structural change that we are observing. 

Let me mention the second issue that I wanted to draw your attention to -- the increased attention which is paid to the growing integration of national economies into the global economy and the related international linkages.  Here, I am impressed by the improvements relating to the surveillance activities of the International Monetary Fund.  One important change concerns multilateral surveillance, where the goal is to add a more global perspective to IMF surveillance and to place greater focus on international linkages and spillovers.  This is clearly desirable, given the ever-closer integration of national economies.  Cross-checking between multilateral and bilateral surveillance helps promote policies that are consistent, not only with other domestic policies, but also with global adjustment within the full body of the international monetary system. 

To foster cooperation on issues of systemic relevance, the international community, as you know, has launched a new supplementary consultation procedure in a multilateral format.  I trust that this multilateral consultation, following the spring '06 IMFC meeting, has been useful.  And I have noted with satisfaction that the policy plans set out by the participants, and which were just published, represent further progress in the implementation of the global strategy that the international community has endorsed.  I also trust that these policy plans, which are being implemented, will make a significant contribution to reducing imbalances. 

Apart from strengthening the multilateral dimension of surveillance, the Fund is also in the process of adjusting its regional surveillance.  Experience has already been gained in the conduct of this form of surveillance, as regional reports on some monetary unions, including the euro area, have been prepared.  That said, I deem it useful that improvements are being considered to place more emphasis on the interaction between surveillance at the regional and the country level. 

Another area that deserves attention is the treatment of intra-regional linkages and cross-country spillovers.  Moreover, and on a more general note, I consider it important for the Fund to take full account of the specific features of the monetary unions that are subject to surveillance.

Finally, a field which is of particular interest to the ECB, the discussion on how the Fund's surveillance over exchange rates and the exchange rate policies could be improved.  On a general note, I consider that the Fund, in its exchange rate analysis, should make a clear distinction between exchange rates which are a policy objective and those who are market-determined.  As far as exchange rate policies are concerned, it is desirable for the Fund to engage a regular dialogue with the authorities and to provide a confidential view on the appropriateness of these policies from a country and from a global perspective. 

In this context, the Fund could play a useful role in assisting systematically important countries to establish market-based policy frameworks.  This will help minimize spillover effects in the form of asset price distortions and risks of disruptive market unwinding.   For the fund to be effective, it is of course crucial that members comply with their obligations to surveillance, including as regards the provision of data.  When it comes to exchange rates that are determined by market mechanisms, developments of the domestic economy should be reviewed, but communicating publicly on bilateral floating exchange rates should be avoided.  It would always entail the risk of interfering with the proper functioning of freely floating foreign exchange markets, and with the joint messages that the authorities concerned themselves would agree to get together on their own bilateral rates.

Let me say a word on a very, very important issue, which is the standards and codes.  It's been a very important development in financial architecture that the international community has strongly supported. In this domain, the G-20 I already mentioned, that played an important role.  The various standard-setting bodies, including the Basel-based committee, the IMF and the World Bank, and the Financial Action Task Force, have managed to develop many international standards and codes which have been agreed upon by a rising number of countries.  These standards and codes cover a broad range of fields, such as transparency in fiscal, monetary and financial policies; banking supervision; corporate governance; accounting and auditing; and reflect the growing interaction between the macroeconomic and the financial sphere. 

The role of these instruments is highly significant, as they help anchor market expectations by effectively constraining macroeconomic and financial policy measures.  Moreover compliance with international standards and codes makes national policies more transparent and mitigates the risks of disruptive developments.  All of these effects contribute to the resilience of national economies, as well as of the global financial system.  One of the challenges that the standard-setting bodies are faced with is to ensure that the various standards and codes are mutually consistent and regularly updated so that they keep pace with the changing global financial environment. 

I would mention, only as an example, the voluntary principles to underpin a sustainable and healthy flow of private capital to emerging markets, because a number of us in this room are actively working on that.  And I would say that now the “Principles of Stable Capital Flows and Fair Debt Restructuring in Emerging Markets” have been set up, thanks to the very active participation of emerging economies and the private sector.  This is one example amongst many others, but I think it was worth mentioning it. 

And let me very rapidly mention my last point, which would be the integration of macroeconomic and financial surveillance.  And it seems to me that there I have to mention the prominent institutional newcomer, which is the Financial Stability Forum, which was set up in '99 to enhance policy coordination amongst national financial supervisors, the international financial institutions, and the international standards sectors, with the aim of promoting international financial stability.  Its creation came as a major response to the financial crisis of the late '90s.  They have exposed very, very numerous weaknesses in the interaction between national authorities in charge of supervision and regulation of financial institutions, operating in an increasingly globalized market, and they had underlined the need for improved information sharing and harmonization of national rules. 

I think that the FSF has, in a short period of time, presented very important findings and policy recommendations on a number of systematically relevant issues, namely in particular the risks stemming from large and volatile capital flows, concerns related to highly leveraged institutions, and other issues.  As you know, at the request of the G-7 during its meeting in Essen, the Financial Stability Forum will provide an update of the 2000 report on highly leveraged institutions.  And we had some presentation of the work in progress, which was done by Mario Draghi, the leader of the Financial Stability Forum. 

I think it's also important that international institutions are placing increasing emphasis on the interplay between macroeconomic and financial surveillance.  The BIS, for instance, has expanded its work on the interplay between macroeconomics on the one hand and financial stability on the other hand.  Moreover, the IMF, in the context of its strategic review, is currently considering and has in some instances already implemented changes to its surveillance activities by placing more focus on the integration of macroeconomic and financial surveillance, and given the increasing role that financial sectors and markets play in national economies, as well as in the global economy, this is a very important and welcome development. 

Among the topics that are worth exploring as the identification of critical links between macroeconomic and financial market issues, also the role of the financial sector in triggering disturbances and spillovers from the country to the global level will have to be studied in great detail.  Particularly important tools in this regard are the financial sector assessment programs, which the IMF established some time ago.  These programs, as well as the assessment of observance of financial sector standards and codes, are very important instruments to promote the soundness of financial systems of IMF member countries.

Let me, in conclusion, make three remarks that I trust are important as regards the continuing prosperity of the global economy and the stability of global finance.  I have said that already, and I think that it's a remark which is very, very widely shared -- this no time for complacency.  And I remember we had an occasion of discussing that on the other side of the Atlantic.  It is not because we are experiencing the strongest sustained expansion in more than 30 years.  It is not because that expansion is more balanced today than it was a few years ago, or even a year ago, that we should be complacent.  It is precisely in such episodes of the global economy that we should work even more actively to ensure that the global financial architecture is ready to weather possible future shocks, to ensure that we correctly measure price and manage risks, and to pave the way for appropriate global handling of the situation, if risks are materializing here and there.

A second remark I would make is that global prosperity -- but I already made that remark as an introduction -- and the rapid development of emerging countries has been based on open markets and on the fantastic expansion of global trade.  It is essential that we combat protectionism, each of us, in our own constituency.  Let's repeat that while it is true that we have to be alert as regards the difficulties that some of our citizens have to cope with an extremely rapidly changing economic environment, it's also true that open trade and globalization have created jobs in all economies concerned, here on this side of the Atlantic, in Europe, and of course in the emerging world.  An enormous amount of new jobs have been created and we owe that job creation to the kind of open world which we have created and fostered.

And finally, I would mention the necessity to continue advancing as resolutely as possible in three directions, amongst many others, but those directions appear to me decisive in the light of past experience and present observations.  

First, improving transparency.  It's been one of the main provisional conclusions from what we had observed at the time of the most recent turbulences and particularly in the time of the Asian crisis.  We considered that we had to improve a lot transparency, and I trust that if we did not observe, since the Asian crisis, the element of contagion that we had observed in the time of the Asian crisis, it is probably that we had worked a lot to improve transparency -- transparency of datas, and transparency of policies.  But we still have to work on that.  I really trust that we are considerably encouraged to continue to go along this line, after having seen that it had already helped us in a significant way to improve resilience and foster stability. 

A second remark is to mention again the importance in the present world of working out market-led voluntary principles, standards, codes.  Of course, there is an important responsibility for the standard-setters, but there is also a very important responsibility for the participants in general, whether they are issuers, whether they are market participants, whether they are any kind of -- of entities that have a say in this open world that we have created.  I trust that, again, we are vindicated in this direction by what has been accomplished now, but a lot -- a lot remains to be done, and we should devote maximum energy to continue working very actively in this domain, updating what has been already done and perhaps going along such voluntary principles in other areas. 

I would mention, as an example, where we could improve the situation.  Perhaps the so-called highly leveraged institutions -- hedge funds and other highly leveraged institutions, where one first step to improve the situation, if we judge and if the international community judges that situation could be improved, market-led voluntary principles could be an avenue that I would certainly consider worth exploring.

And third, I would say that the experience of the Financial Stability Forum shows how it is important to arrange for us at a global level, all possible links between authorities, standard-setters, surveillance authorities, international financial institutions, in order to have a place where we could have really a synthetic view of the functioning of the global economy, which is an entity which we have created ourselves and should not be perceived through the narrow grid of each particular institution authority, surveillance authority, standard-setters.  We have to be fully aware of the fact that also in this domain, improvement can be made and again, we are vindicated in this -- in pursuing this direction by what has been accomplished until now, particularly in the FSF.

Thank you very much for your attention. 

(Applause.) 

ROSEN:  Thank you, Monsieur Trichet.  Thank you very much for those remarks.  You give people a lot of confidence that the architecture of the global financial system, the -- the institutions that underpin it, the policies, the standards, the practices which they adopt, in the context of an increasingly integrated global economy, gives somewhat -- one optimism for the future.

I'd like to open with one question, then I'll open it up to questions from the audience, and it really has to do with current markets.  I remember in Davos last year you were -- what was the word -- prescient, which means you were very far-sighted.  In fact, in some senses, near-sighted, because what you said at the time was that you suggested that investors prepare themselves -- I'm just reading notes to remind myself of the words -- to prepare themselves for a significant re-pricing of assets, which was a consequence of what was seen at the time to be unusually low levels of rates, spreads and prices of risk instruments, all of which you felt could trigger a dramatic re-pricing of assets in the near term.  And within a short period of time, of course, we had the market circumstances in the equity markets in China, followed by the market circumstances related to the sub-prime loans in the United States, and the ripple effect of those particular developments. 

What I'm curious about is when you look at the markets today, whether you feel that re-pricing has taken place and whether there is the proper level of risk back in the system, or whether there are still factors that are of concern to you?

TRICHET:  I understand that market people are of course very, very interested in relatively short-term, if I may, provision of projections, which is not what I was doing in Davos and is not what we central bankers are doing.  I said that a number of observations that we are making in the market are probably suggesting that even if those features can last for quite a long period of time, they are not necessarily sustainable in the very long period.  And so that in any case, and as I said in these introductory remarks, we have to prepare for the adjustment to be as slow and orderly as possible, because, of course, sharp, abrupt adjustments are always hostile to the financial stability, to real economic prosperity, and also for orderly functioning of the markets themselves.  So that is the main remark.

And I would say, in this respect, I don't pretend that I was visionary in Davos at all. I was making a general remark. It happens that there have been some events in the market which have been corrected, I have to say, quite rapidly, obviously.  But that does not prevent me to say -- and to say something which I have to say when discussing with market participants, I feel is very, very largely shared -- that a number of features that we are observing today are not necessarily sustainable in the long run.  And again, that it is wise, certainly wise for the "authorities,", certainly for central bankers and for the other surveillance authorities, to be aware of the fact that one of our responsibilities is to prepare for the as-smooth-as-possible adjustment when time comes.

ROSEN:  I have one more brief question as a follow-up to that.  The -- if there is a difference today in the markets, compared to, say, five years ago -- certainly 10 years ago -- it is the predominance of derivatives, derivative instruments as a means of redistributing risk.  What I'm curious about is whether you think that is a shock absorber or a shock -- or something that will accentuate shocks in certain market circumstances, and whether people really have a comprehensive understanding of this system of derivatives to enable them to reach some conclusions on that.

TRICHET:  It's of course one of the most important questions that we all are trying to respond to.  It's absolutely undeniable that these creations of the market corresponded to a real need.  And we have also a sense of the fact that this explosion of derivatives and this imagination and creativity that marked this segment of the market could have in the past, and have effectively played a role as a shock absorber.  I'm thinking that the explosion of the tech bubble did not create major problems for any commercial banks.  And I think it's common wisdom to consider that, had we not had the start of the generalization of credit derivatives already at that time, we probably would have observed a phenomenon that would have been more acute and perhaps more dramatic.  So from that standpoint, I think it would be an enormous mistake to be ex ante negative on what the market has created and arose. 

That being said, the volumes that are at stake and particularly what has been observed over the last three, four, five years since the explosion of the tech bubble that I was mentioning, and the correlation between this explosion of this segment of the market and also the explosion of initiatives and creativity, because the instruments that we are observing today are not those that existed two or three years ago.  Plus, the correlated augmentation of the influence of the highly leveraged institutions is something that we have to understand better.  It's clear that it has not been tested under stress, and it's also clear that at the present moment, we cannot say that we are absolutely sure that under stress we would -- we would be in the best of the worlds possible, and that we would observe exactly what we had observed in the time of the tech bubble.

So we have to work a lot.  It is what we've been doing, certainly, in the constituency of central banks, where we are working a lot on this combination of structural changes of the financial market.  It is done through the FSF; I mentioned the work the FSF is doing in updating the highly leveraged, very interesting study that had been produced in 2000.  It is something that I know, of course, better than anybody, the market itself is working upon in the private sector, and particularly in this marketplace. 

I trust that -- I have said I trust in market-led principles, codes of conduct.  I trust in permanent contact between authorities in the public sector and private sector.  I think there is immense stake in being as connected as possible, and to permit mutual understanding, but we encourage also the private sector to reflect upon what it creates itself, spontaneously, because again, it is a shared responsibility to ensure financial stability -- we all have an enormous stake there -- and I trust that the private sector itself must have shared responsibility in ensuring stability.

ROSEN:  Let me now take questions from the audience.  And again, when you stand -- could I ask you to stand when the microphone comes to you; state your name, affiliation, and a brief question. 

Yes, sir.  The man on the end.  Yes.  Yes.

QUESTIONER:  I'm Andreas Lowenfeld from New York University.  I'd like to ask you about Europe.  Whatever happened to the Stability and Growth Pact?  And are you worried about -- it seems to have gone away.  (Scattered laughter.)

ROSEN:  The question was what has happened to the Stability and Growth Pact in Europe; it seems to have disappeared.

TRICHET:  You know, I -- I heard, of course, the question.  (Laughter.)

ROSEN:   I was repeating it -- I thought I'd give you an extra moment of consideration, and I -- I just wanted to make sure everyone heard the question.

TRICHET:  But it's a very good one, because I will give you a very clear response.  No, it's not gone away.  It's not gone away.  It is true that at the end of 2003, and during 2004, there had been a debate and some were asking for blowing up the Stability and Growth Pact.  We in the ECB said at the time, "No, don't do that."  The Stability and Growth Pact -- which, by the way, has its roots in the Maastricht Treaty.  So it's not something that you can blow up like that.  The roots are in the Maastricht Treaty, and the Stability and Growth Pact is the way to implement what the Maastricht Treaty is recommending.  And we said ourselves, my colleagues in the governing council and myself, as president, we were bold in having a single currency.  We do not have a federal government, we do not have a federal budget.  As regards the fiscal side of the coin, we must have a Stability and Growth Pact in order to ensure the cohesion of economic and monetary union.  Let's not forget that we have three letters -- E, M, U.  Monetary union, of course.  But also economic and monetary union.  The “E” is important. 

I have to say that we had a long, long meditation.  A lot of governments understood pretty well what the European Commission and the ECB had said.  And finally, the pact didn't blow up.  The pact was modified.  We had not considered that it was the best thing to do because it had opened up a Pandora's Box, but a decision had been taken unanimously by all governments to maintain the pact.  And we called immediately ourselves to strict implementation of the pact that had been amended and was decided upon by the unanimity of the executive branches of all countries concerned.  And when I say all countries concerned, I'm mentioning the full membership of the European Union.  As you know, it's not only the13 that are in the euro area, but 27 that are at stake.  The 13 have sanctions that are possible, but all the others have to respect the pact. 

And I have to tell you that at the moment I'm speaking, all governments, without any exception, are saying, "Our policies are to follow the pact."  And the thing is, we have -- of course we are in a -- in a very positive episode in the business cycle, so the figures are much more flattering than they were three years ago, but let me also mention the fact that we are telling all executive branches in Europe, "Don't forget you are in a very, very positive episode in the business cycle.   It is the moment where one has to work actively to pave the way for the future and to put aside what would be necessary, perhaps, in a more difficult time."  The message we had in this respect for the executive branches in Europe is exactly the kind of message I was giving for us and you, if I may, to market people as well as to authorities.  We are experiencing a very positive episode in our economy at the global level; as I said, extraordinary expansion never seen since more than a quarter of a century.  Let's take advantage of this period to prepare for the best possible future.

ROSEN:  Yes.  This gentleman right here.  Yes.

QUESTIONER:  Justin Mondshine with DTAP Capital.  Would you share your views on what effect currency has on monetary policy?

TRICHET:  You are speaking of the exchange rates?

QUESTIONER:  (Off mike.)

TRICHET:  I would only say what I have always said, and there is nothing new there, that when we decide our monetary policy, we take into account all information, all pertinent information.  And we take into account all elements that are coming from the domestic economy, all elements that are coming from -- from the international situation, and this is one element amongst many others.  Our goal is to deliver price stability in line with our definition of price stability, and to be credible in the delivery of price stability over time.  At the beginning of the euro -- and you might remember the skepticism which was dominating at the time -- have some memories of delivering some speeches in New York, even at the beginning of '98.  So, say, it's 10 months before the setting up of the euro, and the majority of the audience was absolutely convinced that it would be impossible.  And now, today I can tell you, 318 million people are sharing a single currency that is as credible as the most credible currency, national currency,that existed before.  And everybody has to recognize that.  I can say that not only in New York, but in Bahrain I can say that this currency, the euro, is as credible as was the old national currency, as well as the best and most credible national currencies before.

So again, this is absolutely key.  And since the very beginning of the euro, we solidly anchored inflation expectations, in line with our definition, less than 2, close to 2 percent.    And it is something which is very interesting, because these expectations are solidly anchored at a level which is fully in line with our definition of price stability, and the volatility of this expectation is also very, very low.  So we have probably, from that standpoint, one of the best anchoring you can imagine.

ROSEN:  We have time for one more brief question, with one more brief answer. 

Yes, sir.

QUESTIONER:  Mallory Factor, with Mallory Factor, Incorporated.  You -- in response to Mr. Rosen's initial questions, you talked about the role of the central banker to prepare for adjustments.  I'm curious to know what adjustments do you see coming, how are you preparing for them, and what do you see happening in terms of adjustments in the United States and how should we be preparing for them?

ROSEN:  All in a brief answer.

QUESTIONER:  Right.  All -- all very brief.  (Laughter.)

TRICHET:  (Laughs.)  In some areas, in some segments of the market, those who have a longer experience and have the memory of the past can make a judgment and I think that it is not likely that what they observe today will necessarily continue for a very long period of time.  This is an observation which is made by market participants in New York very often, because I heard that myself, very often.  And I have nothing else in mind than that. 

ROSEN:  So, with that, let me thank Monsieur Trichet by saying that a partial answer to that question that the job of the central banker is to prepare for the unexpected, and how you know what to prepare for is the real challenge.  There are very few people who, I think, can bring a combination of the experience and the thoughtfulness that he does to that challenge to give people the confidence that when the unexpected does occur, the response to it will have been as anticipated as possible.

So, Monsieur Trichet, thank you for joining us this evening, and thank you all for joining us. 

TRICHET:  Thank you very much.

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THIS IS A RUSH TRANSCRIPT.

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JEFFREY ROSEN:  Good afternoon, and emerging into good evening.  Let me all welcome you here this evening.  My name is Jeffrey Rosen.  I am very pleased to be your presider and moderator today.  Let me first begin with the traditional ground rules and also to remind you that this meeting is part of the C. Peter McColough Series on International Economics.  It is a series that is sponsored by the Council's Corporate Program and the Maurice R. Greenberg Center for Geoeconomic Studies.

I also would like to tell you that this session, unlike the Council's not-for-attribution sessions, is in fact on the record.  And finally, as they do in the movies, let me remind you to turn off cell phones, BlackBerrys and all wireless devices.  In fact, I'll pause 10 seconds to make sure you look at them and turn them off.  They can be remarkably disturbing, especially these days when people have these very novel and imaginative cell phone and telephone ringers. 

When we -- when Jean-Claude Trichet finishes his remarks, we will have a question-and-answer session.  I think you all know how those are conducted, but I will call on individuals in the audience.  There will be microphones for you to use to ask your questions, and what we do ask is that you stand, state your name, your affiliation and your question -- and try to make it a question rather than a statement because we want to get in as many of them as possible. 

Jean-Claude Trichet has appeared here before.  You know him by reputation.  You know him, undoubtedly, by his past appearances, and you will know him by the CV that you see of him in the little folders that you may have picked up on the way in.  I have known him as a remarkably accomplished central banker who brought exceptionally strong credentials to the European Central Bank and has done an extremely good job since then.  And what I find about him that's especially interesting is his ability to articulate thoughtful points of view on a wide range of issues that goes beyond what one normally sees central bankers describing and discussing.  So with that as an introduction, let me introduce to you Jean-Claude Trichet.

(Applause.)

JEAN-CLAUDE TRICHET:  Thank you.  Thank you very, very much indeed.  It's a pleasure to be -- to be there with you.  It's not the first time, as you have said, that I have been invited by the Council on Foreign Relations in New York City, but I'm very impressed because it seems to me that you have embellished the Council on Foreign Relations in a very, very efficient manner.  So I would say congratulations for the embellishment.

In my talk today I will look at some key features of global economic and financial integration and elaborate on how the key international fora and institutions in charge of international financial cooperation have responded to this process.  The global integration of national economies continues at a very, very significant pace.  The scope of goods and services, as well as capital and labor that are being exchanged between economies is striking.  A growing number of countries and economies are involved in this exchange and can reap the benefits that are associated with it.  They are tremendous, those benefits. 

I cannot help mentioning here the incredible number of jobs that have been created all over the world by this open, global economy that we are constructing, jobs created in the emerging countries so visibly and strikingly, and not only in emerging Asia, jobs that have been created in the developed world, in the industrialized world.   The level of unemployment in the United States is impressive, and let me only tell you that at the present level, which is not as flattering as I would hope, but in the euro area we have the lowest unemployment rate since 25 years.  So jobs are created in all economies in the world in the present episode of the global economy.  But let me concentrate first on the major global economic trends and mention the issues at stake.

One important structural feature of today's global economy is the interdependence of countries and economies as they become more and more integrated in the world economy.  This growing integration pertains not only to trade in goods and services, but also to cross-border movements in labor and capital.  Looking at trade data, we observe that global trade openness has basically doubled over the last 20 years, and in terms of world exports and imports of goods and services as share of world GDP, came from 30 percent to 60 percent.  Trade in intermediate goods and services, as a result of the rising international production processes, has been a growing driver in this regard. 

While these changes are impressive indeed, even far-reaching developments have taken place in the area of financial integration.  If one takes the share of gross international asset holdings in world GDP as a measure of financial openness, one can see a remarkable eight-fold increase over the last 25 years, to now more than 130 percent.  As far as global capital flows are concerned, it is noteworthy that the composition of these flows has changed significantly over recent years.  While foreign direct investment and international equity flows were particularly strong in the late '90s, international transactions in more liquid assets have risen in recent years, making the most of the increasing global capital movements.  International risk-sharing and the transfer of net savings across countries are very important features in this process of financial globalization. 

To the extent that I am president of the European Central Bank, speaking to the Council on Foreign Relations in New York, I was thinking that perhaps some figures could be interesting for you as regards the overall external assets of the euro area and the external liabilities of the euro area compared with the external assets and liabilities of the United States of America.  And some figures are really striking.  As regards the euro area, we were at the level of the United States, approximately, in terms of percentage of GDP in '99 -- 87 percent on our side of the Atlantic, 80 percent on the U.S. side of the Atlantic.  And for external liabilities, equally, the percentages were approximately also the same -- 92 percent on our side of the Atlantic and 91 percent on the -- on this side of the Atlantic.  So orders of magnitude of external assets in percentage of GDP, as well as external liabilities, were the same, again, as a percentage of GDP.

What is striking is that today, at the moment I'm speaking, the last figures I have are that for the euro area it is now, as far as external assets are concerned, 124 percent -- so a very big jump, from 87 (percent) to 124 (percent) -- whilst in the United States, we are at the level of 90 percent; so from 80 (percent) to 90 (percent.)   So what is interesting from that standpoint is the fact that we have embarked in the single market with a single currency has not played at all in the direction of a “fortress” euro area but, on the contrary, has accelerated the coupling to the rest of the world, from that standpoint -- from the standpoint, again, of the external assets and liabilities. 

And it is the same for the external liabilities.  We went from 92 (percent) to 137 (percent) now, when in the U.S. we came from 91 (percent) to 110 (percent).  And again, it is something which is not known -- to my knowledge it is not known -- that the level of assets and liabilities are augmenting more rapidly in the euro area than in the U.S.  It is equally not too well known, I have to say, that as regards the level of external liabilities, the euro area has the same amount of external liability as the United States of America -- something like $13.6 trillion, absolute magnitude.  As far as the assets are concerned, the euro area has a little more external assets than the U.S., 12.4 (trillion dollars), to be compared to 11 trillion (dollars).  So I thought that, again, speaking of the global structural transformation and being here in the United States and in New York, it was interesting to mention that.

Another salient characteristic of today's global economy is the emergence of new, important actors on the global economic stage.  Emerging market economies are gaining a larger share in the global economy as their product and factor markets become more closely integrated with the rest of the world.  The integration of these countries and their participation in international supply chains has clearly affected global demand and supply on a very large range of goods and factors. 

With regard to capital flows, according to the recent statistics which are published by the Institute of International Finance, emerging market economies in '06, like in the year before, are estimated to have attracted more than 500 billion U.S. dollars in net private capital flows.  Net direct investment has been, and is projected to continue to be, a large component of these flows.  Moreover, what bears emphasis is that emerging market economies in most recent years have been providing the rest of the world with net resources in the form of current account surpluses.  The drivers of these mainly official flows are in particular limited domestic absorptive capacities and underdeveloped domestic financial systems, which are the main explanation for these flows. 

In sum, these significant global economic developments are structural and systemic in nature, and have led to tectonic changes in the global economic landscape.  They have brought about substantial benefits, as I have already said, and entail inevitable challenges to all of us policymakers and market participants.  The benefits associated with the broadening and deepening of global economic internal linkages are manifold, and I will not elaborate too much on that because we all know that.  But while these benefits are indeed substantial, there are naturally also rifts and challenges that need to be clearly identified.  The ever-closer integration of national economies and the rising capital mobility have made the international system also vulnerable to changes in investor sentiment.  Furthermore, international trade and financial links intensify the transmission of shocks from one country to another, and amplify cross-border spillovers. 

A cost-benefit analysis of the global economy trends clearly shows that the benefits, again, outweigh the costs by far.  That said, it would be short-sighted to take this outcome for granted; one should not forget that not long ago, a number of severe financial crises posed a major threat to the international financial systems and I see a lot of friends in this room that have been very active participants in coping with these crises.  But let me mention the debt crisis during the '80s, which started in Poland and Mexico, the Mexican crisis in '94, the Asian crisis starting in '97, the Russian crisis in '98, the Argentinian crisis in '01 and '02.  The international community managed to resolve these crises very, very efficiently and successfully, with each crisis bringing about a learning process.  Each case was different; the underlying reasons were different, and hence, the necessary responses had to be adapted to the specifics at that moment.  Past crises shed light on the vulnerabilities of the global economic and financial system, and remind us of the importance of never being complacent. 

The major global economic trends I've just sketched out make it incredibly difficult for policymakers to provide the public good of global economic and financial stability and, consequently, strengthening permanently the resilience of the global system has become an ever more demanding and urgent task.  And this brings me to look at some key international fora and institutions that are in charge of international macroeconomic and financial issues, and see with you how they have adapted to a changing, global economic environment and evolving policy challenges.

In response to the issues and challenges just outlined, international fora and institutions have themselves undergone major changes, both in terms of their structure as well as their focus of activities.  And I would like to confine myself to four areas that I judge important but, of course, it's only part of the issue and certainly part of the description of what has been done during the past years.

I would mention first the involvement of emerging market economies in international fora and institutions.  I will mention second the focus on the multilateral and regional dimension of monitoring and surveillance.  Third, I will mention the development and agreement on global standards and codes, and fourth, I will mention the increasing attention to the integration of macroeconomic and financial surveillance.

First, the emerging market economies involvement.  I think that the G-7 itself has been instrumental in shaping the international financial architecture at a moment where it appeared that it was absolutely necessary to have the full-fledged participation of the emerging markets at a moment where we were really observing that a large number of economies were equally systemic in the functioning of the global finance and global economy.  And I think that the creation of the Group of 20 forum of finance ministers and central bank governors in '99, which was inspired by the necessity to give major economic market economies their place and having them participating in a dialogue on global macroeconomic and financial issues, was absolutely decisive. 

 The new international forum, which brought together representatives from industrialized countries and emerging economies, as well as the Bretton Woods institutions and the European Union, has been extraordinarily important in the time of the Asian crisis.  And as regards the promotion of global economic and financial stability, which was its main aim, the G-20 has been a remarkable forum for serious dialogue on a wide range of highly relevant issues, such as prudent debt management, domestic financial deepening, exchange rate regimes and international codes and standards.  Peer review of members' policy has been a very, very helpful approach used by the group.  And the G-20 has also, during that period since its creation, played an important role in forging consensus on reforms of the Bretton Woods institutions.  It's been also very constructively involved in helping shape mechanisms of crisis prevention and resolution, and even has been decisive in some respects in launching itself, or backing itself, some of the initiatives that we have taken at a global level.

I also would mention the fact that, as I said, the G-7 was also very keen on reaching out to a growing number of systematically important countries, and the fact that representatives from major emerging market economies, including Brazil, Russia, India, China, South Africa, invited to participate in the meetings so as to enable the appropriate exchange of views on issues that are of relevance to global economic and financial stability.  Again, it's now a permanent feature of the functioning of these informal groupings. 

I would note that it is a global phenomenon that such outreach activities have also been launched in the constituency of central banks and that we have, within the so-called Basel groupings within the auspices of the BIS, the very same enlargement of meditation and reflection at the global level.  And I can be a testimony myself that what we have when we meet at the level of the global economy meeting -- for instance, with central bank governors of the major emerging economies as well as the industrialized economy -- is something which is extraordinarily precious and is the mark of this new episode in globalization that is very, very impressively illustrated in this openness of the informal groupings. 

And I would of course mention the fact that the internal governing structure of the Fund, of the IMF, is currently under review, as you know.  The goal of the reform effort, in particular, is to ensure fair and adequate voice for all members of the IMF by aligning the distribution of quotas with countries relative positions in the world economy which is, again, part of this overall structural change that we are observing. 

Let me mention the second issue that I wanted to draw your attention to -- the increased attention which is paid to the growing integration of national economies into the global economy and the related international linkages.  Here, I am impressed by the improvements relating to the surveillance activities of the International Monetary Fund.  One important change concerns multilateral surveillance, where the goal is to add a more global perspective to IMF surveillance and to place greater focus on international linkages and spillovers.  This is clearly desirable, given the ever-closer integration of national economies.  Cross-checking between multilateral and bilateral surveillance helps promote policies that are consistent, not only with other domestic policies, but also with global adjustment within the full body of the international monetary system. 

To foster cooperation on issues of systemic relevance, the international community, as you know, has launched a new supplementary consultation procedure in a multilateral format.  I trust that this multilateral consultation, following the spring '06 IMFC meeting, has been useful.  And I have noted with satisfaction that the policy plans set out by the participants, and which were just published, represent further progress in the implementation of the global strategy that the international community has endorsed.  I also trust that these policy plans, which are being implemented, will make a significant contribution to reducing imbalances. 

Apart from strengthening the multilateral dimension of surveillance, the Fund is also in the process of adjusting its regional surveillance.  Experience has already been gained in the conduct of this form of surveillance, as regional reports on some monetary unions, including the euro area, have been prepared.  That said, I deem it useful that improvements are being considered to place more emphasis on the interaction between surveillance at the regional and the country level. 

Another area that deserves attention is the treatment of intra-regional linkages and cross-country spillovers.  Moreover, and on a more general note, I consider it important for the Fund to take full account of the specific features of the monetary unions that are subject to surveillance.

Finally, a field which is of particular interest to the ECB, the discussion on how the Fund's surveillance over exchange rates and the exchange rate policies could be improved.  On a general note, I consider that the Fund, in its exchange rate analysis, should make a clear distinction between exchange rates which are a policy objective and those who are market-determined.  As far as exchange rate policies are concerned, it is desirable for the Fund to engage a regular dialogue with the authorities and to provide a confidential view on the appropriateness of these policies from a country and from a global perspective. 

In this context, the Fund could play a useful role in assisting systematically important countries to establish market-based policy frameworks.  This will help minimize spillover effects in the form of asset price distortions and risks of disruptive market unwinding.   For the fund to be effective, it is of course crucial that members comply with their obligations to surveillance, including as regards the provision of data.  When it comes to exchange rates that are determined by market mechanisms, developments of the domestic economy should be reviewed, but communicating publicly on bilateral floating exchange rates should be avoided.  It would always entail the risk of interfering with the proper functioning of freely floating foreign exchange markets, and with the joint messages that the authorities concerned themselves would agree to get together on their own bilateral rates.

Let me say a word on a very, very important issue, which is the standards and codes.  It's been a very important development in financial architecture that the international community has strongly supported. In this domain, the G-20 I already mentioned, that played an important role.  The various standard-setting bodies, including the Basel-based committee, the IMF and the World Bank, and the Financial Action Task Force, have managed to develop many international standards and codes which have been agreed upon by a rising number of countries.  These standards and codes cover a broad range of fields, such as transparency in fiscal, monetary and financial policies; banking supervision; corporate governance; accounting and auditing; and reflect the growing interaction between the macroeconomic and the financial sphere. 

The role of these instruments is highly significant, as they help anchor market expectations by effectively constraining macroeconomic and financial policy measures.  Moreover compliance with international standards and codes makes national policies more transparent and mitigates the risks of disruptive developments.  All of these effects contribute to the resilience of national economies, as well as of the global financial system.  One of the challenges that the standard-setting bodies are faced with is to ensure that the various standards and codes are mutually consistent and regularly updated so that they keep pace with the changing global financial environment. 

I would mention, only as an example, the voluntary principles to underpin a sustainable and healthy flow of private capital to emerging markets, because a number of us in this room are actively working on that.  And I would say that now the “Principles of Stable Capital Flows and Fair Debt Restructuring in Emerging Markets” have been set up, thanks to the very active participation of emerging economies and the private sector.  This is one example amongst many others, but I think it was worth mentioning it. 

And let me very rapidly mention my last point, which would be the integration of macroeconomic and financial surveillance.  And it seems to me that there I have to mention the prominent institutional newcomer, which is the Financial Stability Forum, which was set up in '99 to enhance policy coordination amongst national financial supervisors, the international financial institutions, and the international standards sectors, with the aim of promoting international financial stability.  Its creation came as a major response to the financial crisis of the late '90s.  They have exposed very, very numerous weaknesses in the interaction between national authorities in charge of supervision and regulation of financial institutions, operating in an increasingly globalized market, and they had underlined the need for improved information sharing and harmonization of national rules. 

I think that the FSF has, in a short period of time, presented very important findings and policy recommendations on a number of systematically relevant issues, namely in particular the risks stemming from large and volatile capital flows, concerns related to highly leveraged institutions, and other issues.  As you know, at the request of the G-7 during its meeting in Essen, the Financial Stability Forum will provide an update of the 2000 report on highly leveraged institutions.  And we had some presentation of the work in progress, which was done by Mario Draghi, the leader of the Financial Stability Forum. 

I think it's also important that international institutions are placing increasing emphasis on the interplay between macroeconomic and financial surveillance.  The BIS, for instance, has expanded its work on the interplay between macroeconomics on the one hand and financial stability on the other hand.  Moreover, the IMF, in the context of its strategic review, is currently considering and has in some instances already implemented changes to its surveillance activities by placing more focus on the integration of macroeconomic and financial surveillance, and given the increasing role that financial sectors and markets play in national economies, as well as in the global economy, this is a very important and welcome development. 

Among the topics that are worth exploring as the identification of critical links between macroeconomic and financial market issues, also the role of the financial sector in triggering disturbances and spillovers from the country to the global level will have to be studied in great detail.  Particularly important tools in this regard are the financial sector assessment programs, which the IMF established some time ago.  These programs, as well as the assessment of observance of financial sector standards and codes, are very important instruments to promote the soundness of financial systems of IMF member countries.

Let me, in conclusion, make three remarks that I trust are important as regards the continuing prosperity of the global economy and the stability of global finance.  I have said that already, and I think that it's a remark which is very, very widely shared -- this no time for complacency.  And I remember we had an occasion of discussing that on the other side of the Atlantic.  It is not because we are experiencing the strongest sustained expansion in more than 30 years.  It is not because that expansion is more balanced today than it was a few years ago, or even a year ago, that we should be complacent.  It is precisely in such episodes of the global economy that we should work even more actively to ensure that the global financial architecture is ready to weather possible future shocks, to ensure that we correctly measure price and manage risks, and to pave the way for appropriate global handling of the situation, if risks are materializing here and there.

A second remark I would make is that global prosperity -- but I already made that remark as an introduction -- and the rapid development of emerging countries has been based on open markets and on the fantastic expansion of global trade.  It is essential that we combat protectionism, each of us, in our own constituency.  Let's repeat that while it is true that we have to be alert as regards the difficulties that some of our citizens have to cope with an extremely rapidly changing economic environment, it's also true that open trade and globalization have created jobs in all economies concerned, here on this side of the Atlantic, in Europe, and of course in the emerging world.  An enormous amount of new jobs have been created and we owe that job creation to the kind of open world which we have created and fostered.

And finally, I would mention the necessity to continue advancing as resolutely as possible in three directions, amongst many others, but those directions appear to me decisive in the light of past experience and present observations.  

First, improving transparency.  It's been one of the main provisional conclusions from what we had observed at the time of the most recent turbulences and particularly in the time of the Asian crisis.  We considered that we had to improve a lot transparency, and I trust that if we did not observe, since the Asian crisis, the element of contagion that we had observed in the time of the Asian crisis, it is probably that we had worked a lot to improve transparency -- transparency of datas, and transparency of policies.  But we still have to work on that.  I really trust that we are considerably encouraged to continue to go along this line, after having seen that it had already helped us in a significant way to improve resilience and foster stability. 

A second remark is to mention again the importance in the present world of working out market-led voluntary principles, standards, codes.  Of course, there is an important responsibility for the standard-setters, but there is also a very important responsibility for the participants in general, whether they are issuers, whether they are market participants, whether they are any kind of -- of entities that have a say in this open world that we have created.  I trust that, again, we are vindicated in this direction by what has been accomplished now, but a lot -- a lot remains to be done, and we should devote maximum energy to continue working very actively in this domain, updating what has been already done and perhaps going along such voluntary principles in other areas. 

I would mention, as an example, where we could improve the situation.  Perhaps the so-called highly leveraged institutions -- hedge funds and other highly leveraged institutions, where one first step to improve the situation, if we judge and if the international community judges that situation could be improved, market-led voluntary principles could be an avenue that I would certainly consider worth exploring.

And third, I would say that the experience of the Financial Stability Forum shows how it is important to arrange for us at a global level, all possible links between authorities, standard-setters, surveillance authorities, international financial institutions, in order to have a place where we could have really a synthetic view of the functioning of the global economy, which is an entity which we have created ourselves and should not be perceived through the narrow grid of each particular institution authority, surveillance authority, standard-setters.  We have to be fully aware of the fact that also in this domain, improvement can be made and again, we are vindicated in this -- in pursuing this direction by what has been accomplished until now, particularly in the FSF.

Thank you very much for your attention. 

(Applause.) 

ROSEN:  Thank you, Monsieur Trichet.  Thank you very much for those remarks.  You give people a lot of confidence that the architecture of the global financial system, the -- the institutions that underpin it, the policies, the standards, the practices which they adopt, in the context of an increasingly integrated global economy, gives somewhat -- one optimism for the future.

I'd like to open with one question, then I'll open it up to questions from the audience, and it really has to do with current markets.  I remember in Davos last year you were -- what was the word -- prescient, which means you were very far-sighted.  In fact, in some senses, near-sighted, because what you said at the time was that you suggested that investors prepare themselves -- I'm just reading notes to remind myself of the words -- to prepare themselves for a significant re-pricing of assets, which was a consequence of what was seen at the time to be unusually low levels of rates, spreads and prices of risk instruments, all of which you felt could trigger a dramatic re-pricing of assets in the near term.  And within a short period of time, of course, we had the market circumstances in the equity markets in China, followed by the market circumstances related to the sub-prime loans in the United States, and the ripple effect of those particular developments. 

What I'm curious about is when you look at the markets today, whether you feel that re-pricing has taken place and whether there is the proper level of risk back in the system, or whether there are still factors that are of concern to you?

TRICHET:  I understand that market people are of course very, very interested in relatively short-term, if I may, provision of projections, which is not what I was doing in Davos and is not what we central bankers are doing.  I said that a number of observations that we are making in the market are probably suggesting that even if those features can last for quite a long period of time, they are not necessarily sustainable in the very long period.  And so that in any case, and as I said in these introductory remarks, we have to prepare for the adjustment to be as slow and orderly as possible, because, of course, sharp, abrupt adjustments are always hostile to the financial stability, to real economic prosperity, and also for orderly functioning of the markets themselves.  So that is the main remark.

And I would say, in this respect, I don't pretend that I was visionary in Davos at all. I was making a general remark. It happens that there have been some events in the market which have been corrected, I have to say, quite rapidly, obviously.  But that does not prevent me to say -- and to say something which I have to say when discussing with market participants, I feel is very, very largely shared -- that a number of features that we are observing today are not necessarily sustainable in the long run.  And again, that it is wise, certainly wise for the "authorities,", certainly for central bankers and for the other surveillance authorities, to be aware of the fact that one of our responsibilities is to prepare for the as-smooth-as-possible adjustment when time comes.

ROSEN:  I have one more brief question as a follow-up to that.  The -- if there is a difference today in the markets, compared to, say, five years ago -- certainly 10 years ago -- it is the predominance of derivatives, derivative instruments as a means of redistributing risk.  What I'm curious about is whether you think that is a shock absorber or a shock -- or something that will accentuate shocks in certain market circumstances, and whether people really have a comprehensive understanding of this system of derivatives to enable them to reach some conclusions on that.

TRICHET:  It's of course one of the most important questions that we all are trying to respond to.  It's absolutely undeniable that these creations of the market corresponded to a real need.  And we have also a sense of the fact that this explosion of derivatives and this imagination and creativity that marked this segment of the market could have in the past, and have effectively played a role as a shock absorber.  I'm thinking that the explosion of the tech bubble did not create major problems for any commercial banks.  And I think it's common wisdom to consider that, had we not had the start of the generalization of credit derivatives already at that time, we probably would have observed a phenomenon that would have been more acute and perhaps more dramatic.  So from that standpoint, I think it would be an enormous mistake to be ex ante negative on what the market has created and arose. 

That being said, the volumes that are at stake and particularly what has been observed over the last three, four, five years since the explosion of the tech bubble that I was mentioning, and the correlation between this explosion of this segment of the market and also the explosion of initiatives and creativity, because the instruments that we are observing today are not those that existed two or three years ago.  Plus, the correlated augmentation of the influence of the highly leveraged institutions is something that we have to understand better.  It's clear that it has not been tested under stress, and it's also clear that at the present moment, we cannot say that we are absolutely sure that under stress we would -- we would be in the best of the worlds possible, and that we would observe exactly what we had observed in the time of the tech bubble.

So we have to work a lot.  It is what we've been doing, certainly, in the constituency of central banks, where we are working a lot on this combination of structural changes of the financial market.  It is done through the FSF; I mentioned the work the FSF is doing in updating the highly leveraged, very interesting study that had been produced in 2000.  It is something that I know, of course, better than anybody, the market itself is working upon in the private sector, and particularly in this marketplace. 

I trust that -- I have said I trust in market-led principles, codes of conduct.  I trust in permanent contact between authorities in the public sector and private sector.  I think there is immense stake in being as connected as possible, and to permit mutual understanding, but we encourage also the private sector to reflect upon what it creates itself, spontaneously, because again, it is a shared responsibility to ensure financial stability -- we all have an enormous stake there -- and I trust that the private sector itself must have shared responsibility in ensuring stability.

ROSEN:  Let me now take questions from the audience.  And again, when you stand -- could I ask you to stand when the microphone comes to you; state your name, affiliation, and a brief question. 

Yes, sir.  The man on the end.  Yes.  Yes.

QUESTIONER:  I'm Andreas Lowenfeld from New York University.  I'd like to ask you about Europe.  Whatever happened to the Stability and Growth Pact?  And are you worried about -- it seems to have gone away.  (Scattered laughter.)

ROSEN:  The question was what has happened to the Stability and Growth Pact in Europe; it seems to have disappeared.

TRICHET:  You know, I -- I heard, of course, the question.  (Laughter.)

ROSEN:   I was repeating it -- I thought I'd give you an extra moment of consideration, and I -- I just wanted to make sure everyone heard the question.

TRICHET:  But it's a very good one, because I will give you a very clear response.  No, it's not gone away.  It's not gone away.  It is true that at the end of 2003, and during 2004, there had been a debate and some were asking for blowing up the Stability and Growth Pact.  We in the ECB said at the time, "No, don't do that."  The Stability and Growth Pact -- which, by the way, has its roots in the Maastricht Treaty.  So it's not something that you can blow up like that.  The roots are in the Maastricht Treaty, and the Stability and Growth Pact is the way to implement what the Maastricht Treaty is recommending.  And we said ourselves, my colleagues in the governing council and myself, as president, we were bold in having a single currency.  We do not have a federal government, we do not have a federal budget.  As regards the fiscal side of the coin, we must have a Stability and Growth Pact in order to ensure the cohesion of economic and monetary union.  Let's not forget that we have three letters -- E, M, U.  Monetary union, of course.  But also economic and monetary union.  The “E” is important. 

I have to say that we had a long, long meditation.  A lot of governments understood pretty well what the European Commission and the ECB had said.  And finally, the pact didn't blow up.  The pact was modified.  We had not considered that it was the best thing to do because it had opened up a Pandora's Box, but a decision had been taken unanimously by all governments to maintain the pact.  And we called immediately ourselves to strict implementation of the pact that had been amended and was decided upon by the unanimity of the executive branches of all countries concerned.  And when I say all countries concerned, I'm mentioning the full membership of the European Union.  As you know, it's not only the13 that are in the euro area, but 27 that are at stake.  The 13 have sanctions that are possible, but all the others have to respect the pact. 

And I have to tell you that at the moment I'm speaking, all governments, without any exception, are saying, "Our policies are to follow the pact."  And the thing is, we have -- of course we are in a -- in a very positive episode in the business cycle, so the figures are much more flattering than they were three years ago, but let me also mention the fact that we are telling all executive branches in Europe, "Don't forget you are in a very, very positive episode in the business cycle.   It is the moment where one has to work actively to pave the way for the future and to put aside what would be necessary, perhaps, in a more difficult time."  The message we had in this respect for the executive branches in Europe is exactly the kind of message I was giving for us and you, if I may, to market people as well as to authorities.  We are experiencing a very positive episode in our economy at the global level; as I said, extraordinary expansion never seen since more than a quarter of a century.  Let's take advantage of this period to prepare for the best possible future.

ROSEN:  Yes.  This gentleman right here.  Yes.

QUESTIONER:  Justin Mondshine with DTAP Capital.  Would you share your views on what effect currency has on monetary policy?

TRICHET:  You are speaking of the exchange rates?

QUESTIONER:  (Off mike.)

TRICHET:  I would only say what I have always said, and there is nothing new there, that when we decide our monetary policy, we take into account all information, all pertinent information.  And we take into account all elements that are coming from the domestic economy, all elements that are coming from -- from the international situation, and this is one element amongst many others.  Our goal is to deliver price stability in line with our definition of price stability, and to be credible in the delivery of price stability over time.  At the beginning of the euro -- and you might remember the skepticism which was dominating at the time -- have some memories of delivering some speeches in New York, even at the beginning of '98.  So, say, it's 10 months before the setting up of the euro, and the majority of the audience was absolutely convinced that it would be impossible.  And now, today I can tell you, 318 million people are sharing a single currency that is as credible as the most credible currency, national currency,that existed before.  And everybody has to recognize that.  I can say that not only in New York, but in Bahrain I can say that this currency, the euro, is as credible as was the old national currency, as well as the best and most credible national currencies before.

So again, this is absolutely key.  And since the very beginning of the euro, we solidly anchored inflation expectations, in line with our definition, less than 2, close to 2 percent.    And it is something which is very interesting, because these expectations are solidly anchored at a level which is fully in line with our definition of price stability, and the volatility of this expectation is also very, very low.  So we have probably, from that standpoint, one of the best anchoring you can imagine.

ROSEN:  We have time for one more brief question, with one more brief answer. 

Yes, sir.

QUESTIONER:  Mallory Factor, with Mallory Factor, Incorporated.  You -- in response to Mr. Rosen's initial questions, you talked about the role of the central banker to prepare for adjustments.  I'm curious to know what adjustments do you see coming, how are you preparing for them, and what do you see happening in terms of adjustments in the United States and how should we be preparing for them?

ROSEN:  All in a brief answer.

QUESTIONER:  Right.  All -- all very brief.  (Laughter.)

TRICHET:  (Laughs.)  In some areas, in some segments of the market, those who have a longer experience and have the memory of the past can make a judgment and I think that it is not likely that what they observe today will necessarily continue for a very long period of time.  This is an observation which is made by market participants in New York very often, because I heard that myself, very often.  And I have nothing else in mind than that. 

ROSEN:  So, with that, let me thank Monsieur Trichet by saying that a partial answer to that question that the job of the central banker is to prepare for the unexpected, and how you know what to prepare for is the real challenge.  There are very few people who, I think, can bring a combination of the experience and the thoughtfulness that he does to that challenge to give people the confidence that when the unexpected does occur, the response to it will have been as anticipated as possible.

So, Monsieur Trichet, thank you for joining us this evening, and thank you all for joining us. 

TRICHET:  Thank you very much.

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