[5]  Helene Rey and Silvia Miranda-Agrippino find that US monetary policy moves can induce changes in risk premiums across countries, move the global financial cycle, and challenge the monetary policy autonomy of emerging market economies. [6] Three, there appears to be a short-term trade-off between price stability and financial stability. Macroeconomic theory and empirical evidence tell us that although there is no long-run trade-off between price stability and employment, there is a short-term trade-off. This is expressed as a “sacrifice ratio”, or the increase in the unemployment rate necessary to achieve a given reduction in the inflation rate. Likewise, could it be that while there is no long-term trade-off between price stability and financial stability, there is a short-term trade-off? In the current conjuncture, for example, there are concerns that monetary policy tightening to bring down inflation could trigger contagious financial failures. Is there an analogous “sacrifice ratio” between price stability and financial stability? These short-term trade-offs call for a mix of monetary and macro-financial policies to meet the twin goals of financial stability and price stability. Combining the use of monetary policy and macro-financial policies can mitigate tradeoffs between objectives. Studies by both the BIS and IMF have found that policy combinations can be more effective than using a single instrument. Claudio Borio and colleagues at the BIS find that when low inflation in advanced economies required loose monetary policies, tightening macroprudential measures through strengthening capital buffers helped mitigate risks to financial stability from increased risk taking and indebtedness.

  The money markets are in much better shape as well: EURIBOR-OIS spreads have narrowed substantially, signalling a lowering of risk premia; the US money market funds seem to be re-opening access for euro area banks.   Tensions on sovereign debt markets have also eased: 10-year Italian bond rates have shed around 200bps since early December; Spanish rates have also decreased significantly in spite of recent renewed tensions.   Although at a low level, overall economic activity is stabilizing, as is bank lending. All these elements indicate a trend reversal. How has this come about? All of the players have proved their commitment and ability to restore stability. National authorities, especially in the most troubled countries, have taken far-reaching measures both to consolidate their public finances and to enhance long-term growth. The new Greek program has been launched. At the European level, a strong new fiscal compact has been agreed upon, as well as the rapid implementation of a powerful financial stability instrument. Banks are meeting their new capital requirements in an orderly way. And – I saved the best till last! – the Eurosystem has taken measures that have been absolutely decisive for this whole process to take place. Unquestionably, the steps already taken by the euro area to exit the crisis have been numerous and important. But recent market developments have reminded us that there is still a tremendous need for further demonstration of the determination of all the players in the European crisis to rise to the challenges facing us.