The U.S. economy is currently expanding at a moderate pace, and strains in global financial markets, although having eased recently, continue to pose significant downside risks to the economic outlook. Because developments in Europe will have an important bearing on the prospects for growth and jobs here in the U.S., the Federal Reserve is monitoring the situation there closely. This is also why we have taken special steps in recent months, together with other central banks, to support the flow of credit to households and businesses. Europe The economic situation in Europe has been unsettled for the better part of two years, with pressure on sovereign debt markets and local banking systems. High debts, large deficits and slow growth in several European countries have called into question the sustainability of the entire euro area. The resulting strains in European markets have affected the U.S. economy. The euro area has the capacity, including the fiscal capacity, to overcome its challenges. However, the politics are very difficult, both because the problem has many dimensions, and because many different countries and institutions in the euro area have to coordinate their actions in order to achieve a coherent and effective policy response. Europe’s leadership has affirmed its commitment to the European Union and its single currency union on numerous occasions. And the leadership is working harder than ever to achieve greater coordination in areas such as fiscal policy. A more robust and resilient European Union would be a welcome development for the United States.

Three recent developments are especially encouraging in that regard. First, liquidity concerns have eased significantly following the European Central Bank’s (ECB) long-term refinancing operations in December and February. Through this program, the ECB provides three-year loans to European banks at low rates, accepting a wide array of collateral in return. Hundreds of banks accessed the program in each operation, and the ECB lent nearly € trillion in total. As a result, the cost of funding throughout Europe has  BIS central bankers’ speeches  1  declined since the program began, the euro has stabilized, and the sovereign bond market has improved. Changes in the ECB’s collateral rules and reserve requirements have also had a positive impact. Second, earlier this month, the Greek government worked with European leaders and its largest creditors to restructure the bulk of its € billion of outstanding privately-held bonds. This not only reduced Greece’s total indebtedness, it helped calm persistent worries that a disorderly Greek default could become the trigger for a global economic crisis. Shortly after the debt restructuring, the EU approved a € billion aid package for Greece. Together, these measures will provide key support to Greek leaders as they pursue the difficult fiscal reforms that are essential over the long term. Third, leaders in most euro area countries have approved a new treaty designed to increase fiscal coordination. The new rules already appear to be making a difference. Both Spain and Italy recently completed 2012 budgets that move their deficits closer to EU targets.