However, disruptions in financial markets have increased the uncertainty surrounding this outlook, which poses particular challenges for monetary policy. As a result, the Governing Council has indicated that it will need some time to fully grasp the consequences for its policy stance. From today’s perspective, the modal scenario going forward is one of financial conditions normalising over a period of time, which could be protracted, although some low-probability, more challenging scenarios cannot be totally ruled out at the moment. Under this central scenario, the effects of financial market turbulence on borrowing costs would most likely be contained. In line with that, the consensus view that seems to be emerging among international organisations and private analysts is that, whilst some slowdown of growth may be expected, the overall effects would most likely remain moderate, with the euro area economy continuing to expand at rates close to potential going forward. Nonetheless, downside risks to growth have increased. Other things being equal, a less dynamic growth picture could mitigate the risks to price stability. But, unfortunately, as often happens when we need other things to be equal, they are not. We are currently facing renewed inflation pressures, which come essentially from the dramatic increase of oil and food prices. The concern is that all this could lead to secondround effects in a context in which euro area labour markets have become tighter. It is true that in the recent past we have experienced various episodes of substantial increases in oil prices without negative consequences on underlying inflation.

As a consequence, conduits and structured investment vehicles (SIVs), which were borrowing in this market to finance their holdings of asset-backed securities, started facing difficulties to refinance themselves. Tensions spread to the interbank markets of most OECD countries, as banks began hoarding liquidity to meet their liquidity support commitments with conduits and to put the underlying assets on their balance sheets. Moreover, banks curtailed interbank lending because of uncertainty surrounding the potential exposures of their counterparties. Since the summer, the global economy and the euro area have entered a period of increased financial market volatility, significant re-appraisal of risks and market nervousness. The Governing Council of the ECB is paying great attention to these market developments and, in particular, has acted swiftly to provide the liquidity that was needed to permit an orderly functioning of the money market, to reduce the volatility of very short-term interest rates around the minimum bid rate of the main refinancing operations, and to contain the risk that tensions in these markets would propagate through the banking system. The Eurosystem will continue to play its part to consolidate a smooth return to a normal functioning of markets. The Governing Council is also monitoring very closely the macroeconomic effects that the recent episodes of financial unrest may have on the prospects for the euro area economy. Sound fundamentals and the expected robust global growth should support a relatively favourable medium-term outlook for economic activity.