The emergence in recent years of new products, such as credit derivatives and CDOs (collateralised debt obligations), and deeper markets for other more traditional products, such as asset-backed securities, have provided financial market agents with a new range of profit and risk possibilities, allowed more dynamic and intensive risk management, and made for greater diffusion and better diversification of risk. Similarly, the emergence of new operators, with investors prepared not only to assume new risks but particularly to do so over longer terms, has in recent years enabled shocks to be absorbed on markets with a lower level of stress and, subsequently, lower volatility. Finally, regulated and non-regulated financial institutions alike, by increasingly having better risk management systems, combined with supervisory and regulatory models based not on coercive restrictions but on providing incentives for proper risk management, contribute clearly to market stability. Unsurprisingly, as a result of all these factors, the international financial system has demonstrated notable stability and substantial capacity to absorb adverse impacts level-headedly, ensuring that the few episodes of overreaction have been very short-lived. However, these structural improvements should not mask the fragilities inherent in this new and more complex environment. The improvements based on proper risk management and diversification are genuine ones. But they entail considerable management complexity and the growing involvement of agents not subject to prudential supervisory arrangements who do not yet have tried and tested experience in managing the risks assumed in more adverse economic environments.

On the other, in a climate of buoyant sales, the widening of business margins continued, albeit at a lesser rate than in previous years. All these factors, combined with the rise in oil prices in the first half of the year, meant that inflation rose in 2006 and that the inflation differential with the euro area stood at 1.4 pp. Inflation began to perform more favourably in the closing months of 2006, a trend that has run into 2007, with the related differential being cut to 0.5 pp. Foreseeably, these inflation dynamics will remain in place for several months. But it should not be forgotten that the improvement has a temporary component, linked to the path of oil prices, and that core inflation remains at 2.5%, despite the continuing restraint of import prices. Price and cost increases in 2006 once again outpaced those of our competitors, prolonging the deteriorating trend of the indices that measure relative prices and costs. Insofar as this difference is not warranted by quality improvements, the trend of these indices reflects a loss in competitiveness, whose adverse consequences for growth will become patent once domestic demand moves back onto a normal footing. The outlook for the Spanish economy points to the continuation of the main features recently observed, namely: the restructuring of spending, thanks to a gradual easing in domestic demand, particularly in consumption and residential investment, and an improvement in the contribution of net external demand.